Can we drop further from here?

We currently have an odd position in the markets: they have dropped about 12% from the top quite rapidly and I tend to believe that this the real start of the second major leg down. I don't know how quick it will be, but I don't think we'll going to make a new high in this bear market rally.

I'm still wondering what will happen short term though. Looking around me, I see still too much bullishness. The buy the dip attitude didn't support the markets but I still read everywhere that it's the normal market correction before the next leg up. So overbullishness is still present. Nobody is scared. It's exactly like during what is now known as the Flash Crash: it was just an anomaly. Yet, a few days later, we were going through the lows of that day. Today, it's just a correction, it will bounce back of course!

Unfortunately, my suspicions get confirmed by some of my favorite quantitative figures:

The VIX and VXO have risen, but are far from showing real fear in the markets. Additionally, at 30-something, they are far lower than what they were just a couple of weeks ago (45-48).

The 20-day equity Put Call ratio is barely reaching its mean. Not a sign of real fear yet...

Worse than that, the 10- and 5- moving averages for the Put Call ratio are back to being at one standard deviation from their mean! It means that call buying has again been the name of the game and confirms my opinions about overbullishness in the markets.

The DJ Bullish Percent index is a lot lower now, but still, it shows bullishness being average, not fear, not bearishness. It's flatish.

The conclusion given the extreme bullishness and euphoria that we reached late April 2010, we still haven't balanced greed by enough fear. Bullishness is still way to high on every measure possible.

This means that even in the short term, further decline is not to exclude and I am increasingly believing that this will be the prevalent scenario. I'm not sure how far and how quickly, and I'll need to reassess anytime relevant.

Trading-wise, I'm not closing my shorts, but I have written some covered deep out of the money puts on my short positions in order to sell some volatility when it was priced a bit higher and also increase the yield should the market stagnate or rise a bit in the next few weeks.