Wednesday's near 300-point rally was extremely important as it indicated just how oversold, on a near-term basis, the market really was. "Oversold" has become an overused term recently, used by traders as an alternate description for the truism that markets never move in one direction for too long.
It is now clear that most of the big money was positioned very vulnerably from the short side. The euro currency short-trade was packed with sellers, while investors rapidly bought up treasuries as a short-term safe haven play (similar to gold in August of 2011). Despite no new 3-year LTRO plans from the ECB, or even a rate cut, the market is now frenzied with the potential of balance sheet expansion from the Fed. If the Fed announces a new LSAP (large-scale asset purchase) program, whereby its balance sheet expands, expect a strong rally until the Greek elections are resolved.
An overall improvement in market sentiment will add some demand for the riskiest of all sovereign bonds, most importantly Spanish debt. While Spain's finances are clearly unsustainable, the prospect of more cheap cash floating around will result in calmer markets and the classic "risk-on" environment, at least until June 17th when the Greeks go to polls. If the anti-bailout parties gain the majority, the worst case scenario is back in play.
Buying oversold stocks with the intention of a quick flip is generally poor trading; huge moves lower with volume expanding in that direction means the marketplace has not yet found equilibrium. Traders were buying oversold stocks and futures contracts two weeks ago and unless they held until today, they probably lost a significant portion of their equity. Granted, buyers of stocks in the past few days did exceptionally well; note the decline in volume and volatility, in addition to the bounce off the 200 DMA in the two days leading up to Wednesday's huge pop.
Now, the near-term risk/reward profile has shifted more favorably for the shorts. While the Fed's actions are very difficult to predict, another big rally resulting from a new LSAP program would offer shorts a good entry opportunity leading up to Greece's elections, and longs a chance to ride the market up for a few days from the easy-money euphoria.
The downside for Greece's elections is that Syriza gains enough voter support, leading to Greece's exit from the eurozone. In this scenario, markets are likely to get spooked as the logistics of a new currency are called into question, in addition to hundreds of billions in euros of Greek deals that would have to be worked through. The underlying fabric of the eurozone will come into question, and the rest of the periphery could lose complete access to capital markets.
If the market likes what Bernanke has to say on Thursday, you can expect a nice rally to ensue over the next several trading sessions. With the big money heavily positioned for the worst case scenario (less so after Wednesday), more easing will likely scare them out into going flat or long.
If the market disapproves, it's all hands on deck. With traders looking towards June 17th, risk-off could mean pure capitulation.
Betting on the immediate market reaction to the testimony is not advised, though it's difficult to imagine a scenario in which Uncle Ben leaves the market in free-fall.