Sucker Punched By the S&P; Don't Expect Rally to Last

Another volatile day in the markets! I was patting myself on the back yesterday as the markets tumbled to the lows (I reversed to the short side at the peak of the rally yesterday morning) but the rally at the end of the day felt like a punch in the gut!

I must say though, the bounce off the lows was powerful! Volume was big in the mini S&P’s and once again a bunch of shorts got buried after adding to positions in the low 1380s and 1370s! But while the rally was impressive, it was not enough to swing me to the long side as I continue to hold shorts in the NDX, the Dow and the S&P.

One variable that supports my case is the amount of volume on Tuesday on the dive versus the amount of volume yesterday on the rise. While the last three days have similar volume figures, the points change in the S&P (SPY) on Tuesday down was much larger than the points rise yesterday. This tells me that it is taking a good deal of volume to rally and such rallies do not last.

During the bear market, the market would dive on high volume and rally on lighter volume in similar fashion as yesterday. In times like this, the on balance volume indicator, which is the price change of the index (or any security) times volume, trends lower. If one looks at the weekly chart, so far this week, this indicator continues to argue for lower levels, regardless of the big bounce this morning.

By the way, Europe is killing us! Nobody over there wants to take a position overnight. They are all shooting now and asking questions later. This is sending our markets down at the same time each day this week. So I guess if the rally is strong tomorrow (I am betting against such), then Europe will give us a big goose higher.

Outside of the S&P though, there are a bunch of markets on the move at the moment. In currencies, the action is not just in the Yen; it is also in the emerging market currencies. The Norwegian Krone and the South African Rand have been bouncing around like super balls. There have been some huge swings in the Mexican Peso as well – all from the perceived threat that the sub prime lending problems pose to the system. If the currencies are going to bounce around like this with sub prime on the back of sub prime issues, what will they do when the US economy goes into a free fall because Fed Governors are once again focusing on inflation of the 6 months ago!

Outside of Big Ben and parliament (actually the S&P), here are a few other interesting things that I read about the markets.

Improvement in Credit?
Overnight S&P was out talking about the Sub prime market (who isn’t). They mentioned a very interesting stat that nobody has picked up on – the level of 30 day delinquencies was slowing! They extrapolated that this could be a leading indicator for improvement in delinquency rates of the 60 and 90 day figures, which means that we perhaps are seeing the worst of the housing market now!

I mentioned a while back that the housing stocks would not find bottom till there was a few blowups. Does a blow up in an adjacent industry qualify? I am not sure but if the earnings numbers do not fall any further for the likes of Pulte Homes (PHM), Hovnanian (HOV) and Toll Brothers (TOL), a bounce, that lasts, could occur in the homebuilders. While fair value is still underwater for many of these players, we could be seeing the very worst of the selling now and in the next 6 months there could be stabilization throughout real estate. These are early signals but telling of the future of this market.

Consumer Confidence Improving
Another index that does not get much play is the ABC/Washington Post Consumer confidence index. It rose into positive territory yesterday and now sits at a 5 week high! It is at its highest level since the weeks following September 11, 2001. People are starting to feel more confident about the economy and their finances. While this is not the one indicator that says all is good, it does give us some reason to believe that the economy might be improving underneath the scenes (this does not mean though that things are great). This will be interesting to see if other confidence indexes in the weeks ahead show the same improvement.

The EU Not As Integrated As the US
Overseas, EU’s Almunia said the following, “The EU trade area is less integrated than the US.” While this is not an earth shattering statement, it does indicate that perhaps old Europe is starting to fade and a push to more open markets is underway. Later in the day, ECB Chief Trichet echoed such thoughts when he said “labor productivity was very disappointing.”

Could the opening of the EU markets further give a big push to the Euro over the long term? I believe so as the growth story would be with the EU. At the same time, how fast can a group of highly debted nations move? I remain bullish on the EU economy to perform better than anyone thinks this year. This should help the Euro and keep the ECB in a hiking state of mind.

Ripples Being Felt in the Grains
Here is an obvious statement: The financial markets are very integrated. Corn and the grains ran into further fund selling today perhaps on the back of strains in other markets that some of these funds are feeling at the moment. I have been bearish on this complex for a while, supporting only the beans of late but it seems like the whole complex is now weak as beans were drilled today.

Soybean rust was making the rounds in the marketplace but in looking through the reports at the end of the day, I take it that traders really do not care. I continue to remain bearish (and short) these markets. I will be out with my weekly grain report, on hiatus of late, tomorrow or Friday.

SPY March 14 2007