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Having written on May 16th that it was time to start selling, and maintaining since then a hands-off view to buying equities, some might be expecting a fire-and-brimstone piece from me, thundering from the pulpit that the correction is just beginning.

But that isn't clear. The correction may indeed have more room to run, but the market's path over the next few weeks is going to depend on factors too difficult to forecast. It should depend primarily on two events, the June jobs report on Friday followed by the Fed announcement twelve days later. Even the gods know better than to try to predict the jobs report.

In the short-term, the S&P is now actually oversold, though not horribly so. If it were the first quarter, I might be buying the SPYder (NYSEARCA:SPY) right now as a trade. However, June is a more dangerous month and there is that jobs report staring us in the face two days hence. Last month the Labor Department's (BLS) report flew in the face of other surveys, most notably the ADP report two days prior, and completely reversed the market's tone.

Fueled by the European Central Bank's (ECB) rate cut the day before and primed by the ADP number for a stink-bomb, the market's surprise at the seeming perfecta of (some) growth plus accommodation helped turn what was really a mediocre report into something the media could not stop drooling over for the rest of the month.

The report also launched stock prices into a parabola of buying, made up of buyer's fear, smugness, short-covering, you name it. The violence of the move was accompanied by such shrill self-assurance that central banks had removed all risk from the equity market that it may well have helped prompt the Fed to start talking about tapering. There have also been disquieting signs of little bubbles building in real estate, all at the high end and concentrated in areas fed by investment money - New York City, San Francisco, Miami, Phoenix and the like.

There isn't enough strength in economic data to justify tapering yet, as the Pimco bond folks would be the first to tell you, so some may wonder why the Fed would talk about it at all except to cool asset speculation. It isn't clear that additional bond-buying is doing much else at this point beyond inflating the prices of those investor-bid assets. Looking at the latest data on personal income (0.0% April, disposable down 0.1%) and spending, construction (year-year falling to +4.3%), and manufacturing (ISM negative again), it would appear that it's mostly the prices of higher-end housing, stocks, and collectibles that are benefiting from the program. That they should rise for these assets is not any problem for the Fed, but to rise at breakneck speed in a decelerating economy (Q2 GDP will surely be well below Q1) is alarming.

That I hope is a reasonable argument, and I don't have to tell you that the investment community is filled to the brim with arguments about Federal Reserve policy, much of it quite strident. Reasonable or not, though, I have long appreciated the mistake of thinking policy leaders might think as I do. Or always be reasonable.

What we can focus on here are the paths the market may take in the wake of the jobs report and Fed meetings, rather than trying to predict them. Speaking for myself as an analyst, last month's jobs report was a surprise with inconsistencies that many have written about - a decline in weekly hours, the heavy slant towards part-time and low-paid work, and so on, not to mention that its chief virtue was not being as weak as the ADP-fueled fears.

The latest ADP report Wednesday, at 135,000 was again well below consensus (170,000-175,000), and I particularly noticed the downward revision to last month from 119,000 to 113,000 (the market might have taken note too). That doesn't mean the BLS report will follow suit. It didn't last month, obviously, and while June 2012's report was only 80,000, that was still an increase from the May announcement. Like I said, even the gods shouldn't mess around with the prediction.

The outcomes to be feared are the outliers. Data from the rest of the world has induced a note of growth fear into recent proceedings, particularly with respect to Japan and China, with Japan-related trades in particular fueling volatility in other asset classes. If we were to get another low number like last June, something lower than the ADP figure, markets will probably continue on a June-style correction until the Fed announcement.

It's a useful aside at this point to note that on an intermediate and long-term basis, equities are still deep into overbought territory. The S&P 500 remains above its long-term channel formed from the last market low in 2009, and the bottom of that channel is roughly another ten percent lower, around 1450. There's plenty of room to correct downwards without violating the prevailing trend.

(click to enlarge)

Some might think that markets could rally on a lowball number because it would put talk of tapering on hold, but in this case, at this time, I think the first reaction would be more fears about growth. Since the current QE program is about six months old now, a weak job number coming on top of the weak income and ISM numbers (every non-manufacturing ISM number this year has been the lowest for that month since 2009) would raise doubts about what good tapering was doing. It would certainly rally bond prices, and indeed I have started to nibble at some oversold bonds.

A number at the other end of the spectrum would also be problematic. Something along the lines of 225K+ would probably get a knee-jerk spike, but would almost certainly make tapering into a case that was guilty until proven innocent. I wouldn't expect such a result, but one never knows.

The "Goldilocks" BLS number (yes, I've been hearing that again) would probably be in the 150K-180K range. That would be better than the ADP number, not a slow-growth disappointment, and yet not strong enough to bother the Fed.

Doubtless there are other possible outcomes to dissect, including a Thursday surprise from the ECB, but what is of most interest is how to position in the wake of whatever market results ensue. It's certainly easy to imagine the market putting on a brief rebound, but it's hard to imagine a case for a strong recommitment to equities quite yet, even as a trade. Here is noted hedge fund manager Jim Bianco on Bloomberg backing the thesis that stock market prices are supported by neither the economy nor earnings - it's worth watching just to see him dismiss the oft-repeated argument that the market is cheap based on forward earnings, since forward estimates are usually 15% too high at this point (incidentally implying the S&P is closer to 1500 at an average multiple).

No, what the market wants is to hear that the Fed is firmly committed to no tapering for the rest of the year (as Bianco observed, once Fed withdrawal begins, the market has a big problem), while not hearing that growth is slowing too much or too fast. A middling report should level the market out and leave it on hold for the next crumbs from various Fed governors. However, given the recent momentum in economic data, the damaged psychology of the market, and the calendar (early June is notoriously weak) that leaves equities susceptible to further sagging.

At the moment, I like several bond ETFs that are oversold, two from Vanguard: its Intermediate Bond vehicle (NYSEARCA:BIV) and Short Term (NYSEARCA:BSV), as well as TLT (which had a strong rebound Wednesday) and TIP, which hasn't been so oversold since the fall of 2008. For them to weaken further in the short term (I wouldn't plan on holding either for the long term) would require a sudden uptick in the economic data and more tapering talk from the Fed, which doesn't seem odds-on at the moment.

If data continue to remain soft, or if the situation in either Syria or Japan worsens then bonds should do well for a short-term trade. I also like the closed-end Pimco corporate bond fund PTY here, which recently suffered an 18% correction before rebounding the last couple of days. A leveraged fund, it's yielding 8.46% as of yesterday's close. Equities are near the top of their trading range, bonds near the bottom. Trade accordingly.

Source: Choosing Between Equities And Bonds