Market Observations: 26 October 2011

The European ‘resolution’ may swing things one way or another

General Conditions

  • The European Debt saga took an interesting turn when it was announced Tuesday morning US time that the EcoFin meeting was to be cancelled, although the heads of state meeting would still go on. This lessens the idea that there will be some sort of ‘Bazooka’ plan to ‘resolve’ the situation. I say ‘resolve,’ because all that can come of these meetings is more liquidity, or pledges for more liquidity. This is a solvency crisis, meaning that more liquidity does nothing but buy time. Sure it will help capital markets and the ‘risk on’ trade, but that only really benefits the speculators and politicians, who can’t see beyond a 15 minute chart of the SPX or the next election cycle respectively. It does nothing to address the problem of debt, in fact it enhances it. We’ll see what is said or not said or rumored to be said, but the truth is that the insolvency of the banking system will come to the fore at some stage, ultimately putting pressure on markets.
  • On the Consumer front, Italian Retail Sales came in lower than expected, Canadian Retail sales beat slightly, and US Consumer Confidence dropped to March 2009 levels. An economy that is 70% consumption can’t afford that, but at the same time, this sort of development is an expected, and necessary one if the US is to return to sustainable, non-bubble driven economic growth. However, as I said before, this does not bode well for the current economy, and thus the stocks that are heavily invested in debt driven growth such as the big retail names, and anything dependent on discretionary spending from Americans for earnings
  • In more news that confirms the poor state of the US economy as it is currently constructed, but is necessary for sustainable growth, Case Shiller showed housing prices dropped more than was expected (see Consumer Credit link above). Like consumer credit, rising home prices are a function of the unsustainable bubble economy and must deflate for the economy to be sustainable once again. However, this will continue put pressure on the remnants of said shattered bubble economy, which the Fed/US Government has been trying to prop up since 2008.
  • Bank of Canada held its benchmark rate to 1%, while indicating that it would remain neutral in terms of easing going forward, while it did withdraw language that it was thinking about withdrawing stimulus. It said it saw possible weakness until 2013, meaning that the potential to be dovish exists, although nothing explicit was announced. USD/CAD shot up on the announcement, with the CAD weakening massively. I do believe that the CAD will find a bid again, given the neutrality present in the release, and the relatively weaker USD in this moment.
  • In addition to the Euro Summit, we get US Home Sales and Durable Goods, plus a release of the BOC Monetary Policy Report. I’ll discuss those in the next Market Observations.

The Technicals

SPX

4 Hour Chart. As I postulated on Monday, the SPX rose up to that 1257 area, and instantly turned around, heading back to test the 1220-1230 region, which is to be expected. This was the top of a recently broken range. What is next is now uncertain. Either we could continue lower away from 1257 and challenge the 1215, then 1199, then 1190 areas for possible support levels. A break below 1190 may spell trouble for the bulls in their quest to keep this market riding high. Any positive news from Europe though will probably send this thing higher, possibly through 1257-1260.

Hourly view for a closer look. Price action today seems corrective overall, Elliot Wave guys will probably note that today was a 3 wave sort of day, meaning that the short term trend is still up. I have sympathy with this view, and the fact that we traded down to this 1227-1230 demand zone corroborates that case. I am biased to the long side until a retest of 1257, and will start getting properly bearish above that. Overall, I am bearish on US equities, but this short term move I think has been necessary to shake out some of the weak players and reestablish some hope again before the smash. Based on the hour chart, a break of 1257 to the north will probably carry to the 1275-1315 area. Since this is a rather wide range, the best play here is to look for reversals on 15 minute and hourly charts to start piling in shorts.

Another factor to take note of is the increasing weakness of the star names of the 2009-2011 cyclical bull market. I’m talking about names like NFLX, AMZN, FSLR, DTV, AAPL, GOOG, EBAY, etc. These stocks were bid up by hedge funds, and slowly but surely some of them are starting to come off, notably NFLX and AMZN. Further weakness in these leading names does not portend well for the broader market as a whole.

Trading levels to watch: 1257-1260, 1275-1315 above, 1215, 1199, 1190 below.

 EUR/USD

There isn’t all that much to be said here, given the extreme correlation with the SPX. I do think that this consolidation will resolve higher, and an ultimate reversal will happen somehwere in the red band.

Trading Levels to Watch: 1.40-1.42 above; 1.3820, 1.3655 below


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