Try To Weather This Short Squeeze – Nothing Has Changed. Stop Out On A Close Above SPY $136

July 26, 2012

Thank you so much for the fantastic reviews on INVESTIMONIALS. They truly inspire me and I am glad that my forecasts are helping you make money in this turbulent market.

Speaking of turbulent markets, this morning stocks are getting a big boost from comments made by the ECB’s President. He said they would do whatever is necessary to avoid a crisis. His job is to instill confidence and nothing less is expected. Likewise, the Fed will do everything possible to avoid a financial crisis. This goes without saying and if prompted, Ben Bernanke would say the same.

If printing money was the solution, we should all stop working today. Let’s just print money and live the “high life”. Central banks don’t control fiscal spending and their toolset is limited. The ECB and the Fed have both stated that there is only so much they can do. With ECB discount rates at 0%, they are almost out of bullets. The Fed knows that QE3 is their last bullet and they won’t fire it until they have to.

Monetary easing has been ineffective. It has helped the economy tread water, but it has not stimulated activity. The market is addicted to be easy money and as soon as QE3 is announced, it will be looking for its next “fix”.

Europe has enough money to bail out Spain, but it does not have enough to bail out Italy. The bigger problem is that the need is recurring. Greece, Portugal and Spain will keep coming back to the trough as new members enter the bailout fray. That’s because structural deficits will continue to grow.

We have the same issue in the US. Sometime this year, entitlement (Social Security, Medicare and Medicaid) and interest on our national debt will exceed our total tax revenues. Baby boomers are retiring in greater numbers each year and they will stop paying into the system. Even worse, they will be drawing from it.

Each year, these mandatory expenses will grow exponentially and they will substantially exceed tax revenues. This does not even account for the $1.3 trillion in discretionary spending (defense, homeland security, Veterans Affairs, education, transportation, Department of Justice…) each year.

We will be dragged further and further into debt until foreign lenders no longer want to “park money” in the US. Countries will have to borrow more money with each passing year and the competition for capital will increase. That means borrowing costs will rise. I don’t know how long this Ponzi scheme will last, but we are in the final stages of this con.

From a trading perspective, this macro commentary simply paints the backdrop. Statements from central banks can spark a short covering rallies and bears are always kept on their toes.

The statements from the ECB President don’t carry any weight. Shorts will get squeezed and it will be tough to maintain bearish positions.

This morning, initial claims came in better than expected. However, seasonal adjustments could be distorting the number. Auto manufacturers typically shut down for a few weeks during the summer.

Durable goods orders declined by 1.1% and that was worse than expected. Q2 GDP will be released tomorrow and estimates have been lowered to 1.5%. Anything less than 1.7% should weigh on the market.

Overnight earnings were decent. Tech stocks rallied from deeply oversold conditions and WDC helped. Cyclical stocks have been beaten down and chemical companies posted good results. The theme has been consistent. Revenues are light, but cost-cutting measures have preserved profits. Guidance has been very cautious. The earnings news should not produce much of a rally from this point on.

I started to take bearish positions a week ago and I am basically at a scratch one hour into trading. I told you that I have my largest position of the year on and that means I have little staying power. If the market is able to stay above SPY $136, I will exit 75% of my put positions. I still want to keep 25% on overnight for the GDP number. My entry was a little early, but it was at a good price. I knew that I had to weather solid earnings this week.

If the market backs-off late in the day (and I suspect it will), I will have the staying power I need to hold my positions overnight. I am expecting resistance at SPY $136 to hold. Many Asset Managers see dark storm clouds on the horizon and they will sell into strength. When the market barely penetrated $136 last week on strong earnings news, it signaled strong selling pressure.

Nothing has changed. European credit concerns are elevated, global economic conditions are deteriorating, earnings guidance is soft, November elections are approaching and the “fiscal cliff” looms. Beaten down sectors have bounced from oversold levels and now that the earnings have been released, these rallies should subside. Weak guidance will come into focus.

Stick with bearish positions as long as possible. Stop out if the SPY closes above $136. If this happens, be ready to jump back into bearish positions on a reversal below that level.

I suspected we would take a little heat this week and we are close to weathering this rally. The next wave of selling should be more pronounced and the snap back rallies should be weaker. Weak jobs numbers next week should result in selling pressure.

A decline late in the day would be VERY encouraging. That momentum would carry over into trading tomorrow.

Take a deep breath and don’t let your emotions get the best of you. The technicals will tell you what to do.
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