Market- Quadruple Witching Expirations Cycle.

Market- Quadruple Witching Expirations Cycle.

The quadruple expiration cycle is going keep markets pegged to levels between 1450 and 1460 heading into tomorrow, and we should see real volatility pick up a bit into next week as we get past this cycle. We should get a better idea next week whether or not real money is ready to come into this market following the QE3 announcement or if the extended nature of the rally will force weak hands to back away and bring markets out of this very overbought near term condition. My take is for this to resolve in favor of a moderate move lower before an eventual reversal.

There are several indicators/studies out that strongly suggest bullish sentiment, particularly retail level sentiment, is at extremely “giddy” levels which historically suggests a move lower is eminent. Some indices are more overbought than others such as the Russell 2000 Small Caps index (RUT/IWM) and sectors such as the homebuilders (XLH) and broad industrials (XLI). In contrast, the transports which should be accompanying the rally have diverged in a major way over this past week. The rails in particular have been very weak following major downward revisions and lower guidance from several of the big players. The energy complex has also reversed course this week and is leading the move to the downside. Crude oil in particular has been wacked this week in a very strange tape.

So lots of mixed signals! What usually accompanies these times of conflicting messages is volatility which has been missing in action. The reasons for this lack of volatility in my opinion is that current market participants are confident that markets are out of the woods because of the Fed QE announcements as well as the ECBs Open Market Transactions (OMT) plan. Like I said the other day, I think the bulk of the Initial reaction to these announcements has already been priced into the market and this last gasp higher is part of a blow off move which needs to be digested. As always is the case, these last few “stragglers to the party” get caught behind and left to clean up the mess!

With that being said, the price action of late has to be respected and the consequences of what the Fed has proposed to do need to be properly digested by investors. Make no mistake about it, the Fed is going to do whatever they can to deflate the dollar versus the major currencies and that will in turn boost the precious metals, materials and commodities in general. Housing related stocks will do better in this environment which in theory should stimulate overall economic activity. We have to keep in mind that this plan of action has not worked so far, (the Fed themselves will agree on this point) after several attempts over the past 4 years and it is very likely that this will not have the desired effect as well. Perhaps the Fed knows this as well and is just buying time till after the elections for lawmakers to try (key word) and get fiscal policy right. If you read my updates regularly, you know what I think about those odds… Nonetheless, considering the time of year, when we clear the elections cycle, there could be a huge “Beta Chase” move higher into year-end as money managers and portfolio/hedge fund managers try to catch up to their benchmarks. The major pit fall to this scenario is the so called “Fiscal Cliff” and how that battle shapes up into year end.

So to recap, my favorite sectors here are the mega caps versus small caps and in particular the large cap material plays and the global commodity related plays in general. I also like the home builders on the Fed’s focus on buying MBS (mortgage backed securities). Not liking the action in the rails, energy, financials and emerging markets in general. The weaker dollar could have very detrimental effects on emerging markets as the Fed attempts to export inflation.


Market-Equity Rally All About Short Covering Of The Euro

Market-Equity Rally All About Short Covering Of The Euro

So the Fed has come and gone and bestowed on us a mound full of “QE” to juice up our equity markets. Probability was great that they were going to do something but I think they may have managed to exceed the expectations of the market. It is an interesting dynamic for markets these days as we get more excited about the “band- aid” than the cure itself. So what does this mean for the market? Major sugar/caffeine high for risk assets and a major shellacking to the dollar. Precious metals like Gold and Silver are expected to surge higher as are commodities in response to the weakened dollar.

There are plenty of economist that can do a better job than I at detailing the effects of this action and for those interested, I recommend Cullen Roche at the Pragmatic Capitalist who does a great job highlighting the pitfalls of some of the recent actions taken by the Fed. My take on it is that it was coming like it or not but certainly not to the scope of what was unleashed yesterday. The initial reaction from the market was also certainly more robust than I expected but considering what was proposed, not really surprising. The action was punctuated by extreme short covering action and piggy back momentum trading.

Today we are seeing more short covering along with quite a bit of profit taking which isn’t unusual after a sharp move higher into the weekend. So where to from here? The usual reaction to these announcements mean a few days of “blow off” moves as those who placed short term bets take their profits/losses followed by a natural period of consolidation which doesn’t necessarily mean a big drop in the averages but instead consist of sideways trading for a period of time.

There are many calls on the financial channels and other social media outlets for traders to just hold their nose and not fight the Fed which is generally good advice in my opinion. The problem is that this Fed action has been largely priced into the market. The general consensus has been tilted to the Fed easing for some time now since June 4th at SPX 1275 or so when markets turned on a dime after reports from journalist John Hilsenrath over at the WSJ stated that the Fed was leaning heavily towards easing at its next FOMC policy meeting. The market has since rallied nearly 200 SPX points or around 15% and in my opinion, quite a bit of this Fed induced move has been priced into the market after this week. Could we keep going parabolic here? In certain areas yes such as precious metals, materials and commodity related stocks but in other areas I am of the opinion we may have some trouble pushing higher without some consolidation. Problem is that we are not the only ones to see/feel this so the possibility sure exists that we push straight higher from here without a thought!

Here is why I think we are near the end of this extended summer rally and some profit taking is ahead. The sentiment towards the $USD has reached pretty extreme bearish levels and there has been a substantial amount of short covering of the EUR following the ECB announcements. These short term extreme swings in sentiment almost always revert to a mean and I believe this time will not be different. The chart below is of the DXI (US dollar Index) which measures the dollar against a basket of major currencies. At the current reading of 78.86 , we are very near to levels where we have seen a reversion to the mean in the past. I like to use the 55 period moving averages on a 2 day timeframe on the DXI and since 2009 the DXI has rebounded at (around) 2 standard deviations below its 55 period MA several times as circled below. These aren’t exact entry/exit set ups but they simply tell us that the dollar may have fallen a bit too much a bit too fast and a reversion is likely in the short term.

The FXE which is the Euro Trust ETF is also another one I keep an eye on for these reversals. It is extremely overbought in our daily charts. The action this week did force a breakout to the upside (short covering) on the weekly studies but as I mention above, perhaps too fast, too soon and a reversion to the mean is warranted. A move back to around FXE 125 or so is likely as this massive short covering push unwinds. These currency dislocations should in all likelihood help markets consolidate some of the gains. My risk ranges on the SPX is 1417 to 1483 which is pretty wide after the major one way push higher. We will continue managing trade opportunities as they unfold taking some bullish and bearish trades within this risk range. In plain English, we could trade a bit higher before lower and I want to capture both moves.


Markets- To QE or not QE

Markets- To QE or not QE

The Federal Reserve’s FOMC is really walking a tight rope on additional QE at this juncture. There are several reasons why the Fed could introduce a new easing program based on pure economic indications particularly in regards to the recent employment figures but there are are also several important considerations for not moving at this upcoming meeting. The reasons why have been talked about at nauseum over the past several weeks and months by yours truly and many others so let’s consider why they may not move here even if their recent “modis operandi” suggest they will.

The most glaring reason would be the proximity of the Presidential elections. The Fed, as a supposedly non-political entity, needs to worry about being perceived as partisan and many analysts and economists say that a major announcement of monetary policy this close to the elctions would perhaps cloud the issue particularly when the challenger has made no bones about the fact that he is opposed to the current course of action. In my opinion this is an issue that could weigh on the decision simply because the economy while not robust and gangbusters, is not in crisis mode. The Fed may opt to instead adopt even stronger dovish language and extend the timeframe for an exit of ZIRP well into 2015. Considering that they are still in the middle of their last TWIST operation, the Fed may decide to wait until after the program ends in December before announcing any additional measures

Another possible consideration is that the Fed may want at some point to throw the ball back to the lawmakers. The Fed knows that they will not be able to do the heavy lifting alone without fiscal policy measures and staying on the sidelines for a few months may send the message that lawmakers need to get their act together. The gridlock in Washington is an issue that the Fed has repeatedly warned about and at some point, they are going to run out of monetary policy options. The Fed has warned that the efficacy of these programs are dimished with each additional traunch. The Fed has to be concerned about the “addictive” nature of these stimulus measures on the market.

The S&P 500 is trading at near 4 year highs. If the Fed was planning on disappointing the market due to any of the reasons above, would they not perhaps choose to do it while there is ample cushion to the downside? Don’t forget that the Fed has managed to pile on about 160 S&P handles simply jawboning this market higher over the past 3 months. If the Fed wants to send a first shot across the bow of  lawmakers, this would be a good opportunity to do it.

The Fed could decide that if the German courts rule in favor of the ESM, the program would remove quite a bit of the uncertainty currently plaguing the Euro Zone which obviously reflects back to our economy. The ECB policy announcement was the big market mover last week and if markets could hold on to these gains, the fed may feel some more time is warranted before announcing additional easing measures here at home. The US dollar took a beating with the ECB policy announcement which sort of does the job for the Fed.

Finally, the Fed may choose to keep powder dry for any fallout from the Fiscal cliff later this year. Should they announce a program now and juice markets higher, they will be hard pressed to adopt any additional measures should President Obama win the elections and be at laggerheads with congressional Republicans on issues of sequestration and the expiration of the Bush era tax cuts at year’s end.

So while many economists and analysts feel the likelyhood of a robust QE program this week is a “done deal”, I am not so sure. Is it probable that they move here? Perhaps, but it is certainly not a done deal. Caution is advised.


Market- “Sterilized, Conditional and Unlimited ECB Bond Buying Program”

Market- “Sterilized, Conditional and Unlimited ECB Bond Buying Program”

I had high hopes for today’s ECB announcement and I was disappointed that Mario Draghi and the ECB central bankers chose to use a sterilized bond purchase plan and failed to lower rates. A sterilized purchase plan, particularly one that is conditional, even if “unlimited” in size, is basically taking from “Peter to give to Paul”. Because they are not expanding their balance sheet, the ECB is basically going to divert funds away from the performing countries to support failing ones.

The German courts will decide on the legality of the ESM (European Stability Mechanism) in the next week or so. I am not an Economist nor do I play one on TV but in my humble opinion, the EU needs to allow the ECB to expand their balance sheet. Europe needs growth and they need both monetary and fiscal actions that support economic expansion. To tie these emergency efforts to austerity is not going to help get these economies moving which is what is desperately needed across the European continent .

The market’s initial reaction primarily focused on the words “unlimited” and “bond buying” and risk assets took off to the races. I had anticipated this initial reaction yesterday and reason why we added the bullish call spread on the DIA and It may very well be that we rally for a couple of days. The mega caps of the DOW should outperform if that is indeed the case. The weaker shorts are covering positions in mass today and it remains to be seen if there is some “buy in” from investors over the next few days. From a technical standpoint, I still think there may be some downside ahead before the next major leg higher.

We have not made a test of support at the bottom rails of this channel since early August and we are very much short term overbought with the SPX well within 3 standard deviations above its 40 period MAs on the hourly charts. It remains to be seen if the “conditional” and “sterilized” terms which in my opinion are bearish aspects of the ECB announcement, get some more play over the next couple of sessions.

Headlines abound with the NFP (Jobs report) out tomorrow, the Fed next week along with the German court decision on the legality of the ESM which could theoretically put all of today’s gains in question. Tomorrow’s NFP number is expected to come in at around +120,000 jobs. Again it is very much a day by day market as traders react to the headlines “du jour”.



Markets – Technicals, Volume, Participation and Complacency Do Matter

Markets – Technicals, Volume, Participation and Complacency Do Matter

August is behind us as is the summer trading season and for 2012, instead of a summer crash, Mr. Market brought us a low volume and low volatility rally. The trading action evolved into a neat trading channel from the lows put in on June 4th through the recent highs put in on August 21st. The one standard deviation regression channel on the chart below tells the story best as we have traded within it for nearly three months now. The narrowing of volatility towards the end of the month really kept the trading action compact and since early August, exclusively above the midpoint of the channel which was only broken again over the past couple of days.

The market should again straddle the 1400 SPX and 13000 Dow levels going into a short holiday week full of economic headlines. The biggie obviously will be what the ECB brings to market to deal with the run on sovereign bonds of countries such as Spain and Italy. These nations cannot endure such high rates for much longer and are in dire need of a bailout. We have already begun to get some details and it seems that the ECB will be buying short term bonds of these nations to keep short term borrowing costs low. There are many hurdles to overcome as the legality of this program will be challenged particularly by the Germans. The details of what these countries are going to have to “give up” to get this ECB assistance is still a huge murky subject . Presumably we can expect the ECB to ask for “the first born” and it remains to be seen if Spain and others are willing to give up so much control. As was the case with the Fed last week, we seem to find “balance” at the 1395 to 1403 level in the broad market SPX going into these headlines.

This weekend and into today we got a very clear look at the ever slowing global growth picture. Pretty much across the board, the economic data is pointing to a pullback in manufacturing. Not exactly what the market wanted to see heading into September… or is it?… The slowing pace of manufacturing should make the case for easing that much more clear for the Fed and ECB which should (in today’s upside down market) be interpreted as bullish for risk assets. Well, today at least, markets are looking at the data very cautiously and perhaps positing that the central banks are behind the curve here as the slowing global economy has picked up some steam to the downside.

The recent global economic data does not portend well to upcoming Q3 corporate earnings season. There appears to have been a strong slowdown in economic activity over the past couple of months and clearly these will be reflected in the upcoming earnings cycle. Over the next few weeks, I expect quite a bit of analysts to come in and adjust earnings expectations lower for the quarter and for year-end.

So, in the very near term, I am still bearish. Not as bearish as I was at SPY 143.09 on August 21st but I think we are certainly headed lower within this established trading pattern to test supports at SPY 137.50 and slightly higher. Where we go from there really depends on very precise binary outcomes to some of these upcoming headlines so to speculate too far ahead at this moment would be just that, speculation.





Markets- Held Hostage By The Central Bankers

Markets- Held Hostage By The Central Bankers

There is an incredible amount of anxiety in global financial markets in regards to what the central banks of Europe and the US have in store over the next 2 weeks. Earlier in the summer when the S&P 500 traded at 1280 and unemployment seemed ready to turn higher once again, the probability of more stimulus from the Federal Reserve was high.

As the summer comes to an end, the Fed through its use of the bully pulpit and timely comments via its “voice” at the WSJ did succeed in buying time to analyze the incoming economic data points. Over in Europe, the head of the ECB, Mario Draghi managed the same with very strong indications that the ECB was going to do whatever it took to ensure the survival of the Euro.

The result of these promises simply stated are 140 or so S&P 500 points and some euro stability. I am not going to present exact figures on this but suffice it to say that this is quite a substantial move on a “promise” to do something rather than the actual delivery of action. The market as a discounting mechanism has already priced in some additional easing at this point, exactly how much obviously depends on what comes forth from the central bankers but I am of the opinion that there is better than fair chance that the market will be somewhat disappointed by what is actually delivered.

Ben Bernanke has an unbelievably difficult job. In no way do I fault him for what ails our economy or stock market at the moment but a review on the effectiveness of these quantitative easing program down the road will arrive at the conclusion that it has been a failure. It has failed because the initial program was not nearly large enough in scope and because it was not accompanied by fiscal policy. Because of this piece meal approach, the market begged and got QE2 and is now begging and will probably get QE3 which will be even more short lived in effect than its predecessor.

It’s somewhat disingenuous of me or anyone really to critic this Fed. I doubt many could have done a better job in dealing with the crisis from a monetary policy standpoint than Ben Bernanke. Nonetheless, it has failed in its purpose of stimulating economic activity and spurring job growth. The fiscal policy issues facing the nation and the stubbornly partisan politics in Washington which refuses to put country first and ideology second in order to address them, has to bear a huge chunk of the blame in this failure.

The end result for us (the American taxpayers), the ultimate losers in this mess, is that we are now at a serious crossroads having mortgaged a good chunk of our children’s future economic health in this exercise. Will more QE “work”? of course it won’t in the sense that liquidity is not the problem facing this economy, It’s the confidence, the visibility, to put this liquidity to work in the economy for more than 5 minutes.

The uncertainty we hear so much about is very real and it does affect how businesses plan for the future. The fact remains that corporate America has done a remarkable job managing through this period and turning over a profit to shareholders. The problem is that they have done this through cost management and through very favorable refinancing of their longer term debt, as opposed to growing business holistically.

This along with favorable currency exchanges over the past several years have allowed companies to plug along and survive if you will, in a very treacherous environment. The fact remains that at some point, folks have to get back to work. Companies have to implement longer term investment plans and have the confidence that the available liquidity will be supported by clear and competitive fiscal policies. That is certainly not the case at the moment.

While QE will not achieve these goals, it will provide another expensive, provisory “kick in the behind” to risk assets. The reason for this is that it will stimulate flow of cash to the stock market and provide another round of artificial thrust to risk assets. Borrowing cash at .25% to invest in the market is a no brainer when everyone is doing the same. The effect is an artificial push higher in asset prices until the “drug” wears off and the addicted party comes back to beg for more. No matter your views on this, if you are in the “stock investing business”, you have two choices, play along or get out. You can’t fight the Fed when these programs are enacted, especially in the short term.

The case for the ECB is even more complex than what we face in the US. It is involves factors that we do not have to deal with, well, at least for now, which are factors relating to sovereign issues and in the actual structure of the European financial union. The demise of the US dollar is nowhere near the “edge of the cliff” as is the Euro. The ECB however does have the ability to learn from the Feds missteps with its QE programs and not make the same errors. A Band-Aid approach by the ECB here would be very damaging to that “confidence factor” I mentioned above.

I read a very simple and concise commentary today from an analyst referencing sentiment as measured by asset flow within the Rydex family of funds. The two basic takeaways is that although many of the traditional metrics we use to gauge the market’s next directional steps are pointing decidedly bearish, the next directional steps are going to be decided by a group of bankers meeting in Jackson Hole, Wyoming and another set meeting in Brussels. What ensues next is anybody’s guess.


Markets-The Best Traders Are Always Prepared To Be Wrong

Markets-The Best Traders Are Always Prepared To Be Wrong

Lots of chatter on the blogosphere and Twitter in regards to the market’s next step. There are plenty of excellent arguments on both sides of the spectrum and it seems most participants, no matter if bullish or bearish, can easily present a counter argument to the many conflicting indicators. Bulls will site things as short interest being particularly high (a classic contrarian bullish sign) and bears will site the very low levels on the VIX as an example of complacency and extreme exposure to headline risk as a reason to head for the hills. These among many other arguments being expressed by traders both bullish and bearish are valid and merit consideration.

What I have not heard much about lately is the fact that at the moment, insurance (put options) against sharp market swoons, particularly swoons that may occur sooner rather than later, are at very attractive prices. A broker worth his salt, should be advising his clients about exactly this factor not whether there is another 20 or 30 points left to the upside. At this juncture, the trading considerations are crystal clear from both a technical and fundamental standpoint.

You say they are not? Well they are. We are in a bullish trend at the top of a very well defined trading pattern near the highs of the year. The next steps, from a technical standpoint, are either us breaking this uptrend channel and pushing through to set new highs for 2012 and beyond or fail here and make another trip lower to test support at the bottom rails of this channel 35 or so SPX handles lower and perhaps lower.

The VIX at this juncture should be reflecting more “indecision” and “fear” on the part of traders because in either scenario, the next move should be much more volatile than the action from the past couple of weeks. The reason it is not is because the Federal Reserve and the ECB have made strong dovish comments regarding monetary policy which most participants are taking to mean more QE from the Fed and some sort of program from the ECB to derail speculation in the sovereign bond market for the periphery countries, in particular Spain and Italy.

While everyone is trying to figure out the next directional move, the point remains that the market is giving participants an opportunity to buy some short term insurance at a very reasonable price. Implied volatility is at very subdued levels, particularly in the front months. If you have been long the market and are holding on to some nice gains from the recent leg of this rally, terrific! Be smart about protecting your gains and not giving them all back if the market does indeed selloff. You may not fully capture the next few handles but you will be able to withstand any minor shocks without necessarily “running for the hills” and puking out of positions.

Markets are going to do what they are going to do. There is no ”magic” indicator that will guarantee an optimal resolution every time and the best we can do is review the pros and cons to our thesis and execute a plan. The market tends to punish the side with the loudest voice and you can say that “this time it’s different” (heard it today) and that “price is truth” (heard that today too) or that ”9 out of the last 10 times the market did this or that” (hear that every day) until the cows come home but in the end when it comes down to basic dollars and cents it’s about risk versus reward and protecting your capital first. When it’s cheap to do so, even better.