Nightly Wrap

That nasty word in Europe I mentioned last night, “Contagion” didn't take very long to spread as the mainstream media (Link to London's “The Telegraph” can be found on Drudge Report) is reporting tonight. It seems the EuroZone bond market's need Ireland to take the EU loan to restore confidence in the E.Z. Bond markets. The problem is, as of now, Ireland has not agreed to take the loan. The risks are that the “contagion “ spread through the bond markets are going to take down Portugal and Spain next.

The word seems to be that Ireland is holding out from accepting the EU/IMF bailout unless certain conditions are met, which includes Ireland being able to keep it's political and economic sovereignty (Chancellor Merkel may signal that will be the price to be paid as the Euro is the key to maintaining the E.U) and its

12.5% corporate tax rate under any deal/restructuring. In essence, Ireland is playing hardball and putting Spain and Portugal at risk. I never did think this E.U. And Euro were a good idea, but right now I think the finance ministers in Spain and Portugal are really regretting their decision to join. Like I said last week, the U.S. Took centuries to get to where we are and a lot of blood was shed along the way. To through together a union of different countries, cultures, financial systems, etc. to compete with the U.S. Virtually overnight (when looking at a historical scale), just doesn't make sense and we are seeing just one small example now of two economies of sovereign countries being held ransom by another member state.

Imagine this situation, the EU is begging a country to take bailout funds and the country that desperately needs them is thus far saying no. The real danger is to Spain which has an economy bigger then Greece, Ireland and Portugal combined. EU officials know from the Greek crisis that once bonds hit the level they are at, they have 10 trading days before it becomes a self-fulfilling effect.

Ironically, maybe two weeks ago the E.U. Was considered to be out of the danger zone. Talk about dynamics in the market.

In a second surprise hit to the EU today, apparently Portugal is now saying they may need a financial bailout as well, calling their situation “High Risk”.

In a Monday Triple Whammy, Greece apparently is not going to be able to keep the terms of the biggest bailout in history which they received about 6 months ago as EuroStat has determined that Greece's 2009 budget deficit was higher then what was previously claimed due to “poor bookkeeping”. Furthermore the ongoing Greek budget deficits are far worse then previously disclosed. This means they will have to restructure the deal to allow more time for repayment and make deeper cuts to the budget which have already led to violent street protests. Already mass demonstrations and strikes are planned.

And guess who's catching the blame? The main benefactor, Germany. Angela Merkel reiterated recently that bond holders may have to take “haircuts” in the upcoming bailouts. This in part is leading to the Eurozone bond market risks of “Contagion”.

I can't due the European problem justice in a few pages, it would take infinitely more time then most people's attention span including my own. However, what is at stake is the European bond market, which means other countries that need to borrow, much like we do in the US by issuing treasuries, can not get the funding they need. In addition, the repayment rates go up in countries that can't afford them in the first place (i.e. Greece). And this is important why? Because it leads to civil unrest, governments will be overthrown/tossed out (much like we just saw in our own elections) and ultimately the Union in Europe depends upon the credibility of the Euro currency, which is currently not looking very good. This effects the U.S. as the dollar gains on the Euro being that the market (commodities, exports, equities, oil, precious metals, etc.) have an inverse relation with the dollar. This is the very reason the oil bubble formed, a weak U.S. Dollar, but now we are looking at a stronger U.S. Dollar. So, how smart is smart money considering the charts below? Consider this is a relatively new ordeal as I mentioned above, a few weeks ago Europe was considered to be largely in the clear.

 Just like the accumulation in 2009 led to a rally in the Dollar Index, it appears accumulation has been underway in the Dollar index again at least since September.

To confirm, here is UUP showing the same accumulation.

Clearly there has been a positive divergence in the Dollar Index that I told you weeks ago I could not explain with the caveat that usually 3C divergences are hard to explain at the time they occur, it's only later we realize what was behind them. So “Smart Money” has either known about this or forecasted it well before it started leaking out, taking positions at the lows (accumulation) which they'll later sell into higher prices. It should be clear now that 3C is effective at recognizing this institutional/smart money accumulation, and it should be clear that there are dynamic events that make it very difficult to forecast with great certainty when the reversals will take place.

In The U.S....

This isn't exactly the typical economic report, but I found it to be disturbing. Today a story is out from Reuters that the number of American households facing some kind of hunger issues (food stamps, pantries, etc) just about doubled from 2007-2009 and effected 1 in 7 American households.

A look at Bonds big move today and why TMV remains on our long list...

A few weeks back, before the QE2 schedule was announced, I showed certain bonds showing distribution, the long end seemed to be the best play so TMV was chosen as a long play on falling treasuries in the long end of the curve.

TMV had a great intraday gain today as you can see below...

Don't forget, TMV is a 3x inverse or bear ETF on the 20 year treasury bond fund. Nice run today.

Lets look at charts of bond funds today, see if you can spot

what they have in common...

 3-7 year bond fund

 1-3 year bond fund

20 year plus bond fund

Obviously, it was they all declined around 1 p.m. I assume this is about the time that the a Senior Credit officer with Moody's gave an interview saying that a permanent extension of the Bush tax cuts, which is widely expected and priced into the market, would lead to a downgrade of US sovereign debt ratings.

Now this is across all treasuries, I'm not sure it will last long across the entire curve, but I do still favor TMV, which was featured here several weeks ago, on the long side trade and that will for now, remain on my long list.

Another area in which I remain bearish is the financials. I recently posted s set-up that would allow you to start or add to a short position in BAC as I see this one in an already 6 month old downtrend. Here's the premise of the trade...

First of all, I don't like financials much here. Check out XLF.

 XLF Daily negative divergence on the breakout

XLF 60 min negative divergence on the breakout

XLF daily chart...

This last chart is a bit hard to argue against, I'm just giving it to you straight. There's a breakout, volume looks pretty normal for a breakout and pullback and MACD looks good. It's just the prior two 3C charts look like the breakout saw negative divergences, thus it appears for the moment to be a false breakout.

The premise of the BAC trade, and other financials may be worth checking out as I will be doing, (JPM was also a featured possible short position with its run up to the resistance zone of its trading range, thus offering a lower risk entry) is entirely based on the risk:reward ratio. If you can enter BAC, as some of you may have done last week when it ran up to the top of the Trend Channel near the stop out point, you are entering an established downtrend and doing so at a fairly low risk area. This is why I like to enter part of a position shorting on strength and add the rest when it confirms its weakness and works in your favor.

Here's the current Trend Channel stop. If you use proper risk management and position sizing, I think you can enter the trade with fairly low risk and the probabilities of the trend continuing tend to be high, especially as there are very few stocks right now that are trending.

You may want to wait until I complete my assessment of other banks as I'll be adding to the list of possible short trades in the financial area. I'm looking for low risk, high probability trades with a good entry point. If you like them, the essential element of risk management and position sizing is up to you.

A word on Today's POMO...

As we saw Friday, today there was a good auction, a good accepted:submitted ratio that was bullish. Under the last operation it's highly likely that both days would have seen rallies start after the conclusion of the operation around 11 a.m. And then see continued buying into the close. We didn't see that Friday, we didn't see that today. Unfortunately for us (in judging this matter), there's a lot going on in the world that could possibly be skewing the market to the downside and making it difficult to judge whether the former front running POMO machine is finally seeing a change of character, otherwise known as the removal of the punchbowl. We have another day of evidence, but I would not feel comfortable saying conclusively that this trend or former trend is now over. So we want to remain vigilant until we have good price confirmation that we are seeing the market left to stand on its own two feet without the fund pumping of Brian Sachs at the NY Fed.

The risk of Europe entering a double dip recession has grown exponentially, nearly every day. This also means the risk to America has grown as well. At some point the Fed can not hold up asset prices and create another bubble that will unwind in a horrendous way. The selling caused by problems in Europe will easily eclipse the Fed's POMO regime which is already under fire from every corner of the world.

Finally, if we are in fact in an environment in which world/European economics is overshadowing the money pumped into the market by POMO, or if in fact the nature of QE2 POMO has changed as I have hinted it may, then this chart will be very important in the coming weeks and months ahead.

As the trendline depicts, this weeks start of currency trading (at the red arrow) has already taken out the Euro's support level at the red trendline. This could be the start of a downtrend in the Euro and up in the dollar (don't forget our stocks largely are inversely correlated with the US dollar). A move below $1.30 for the Euro will have significant psychological implications and could lead to a mass sell-off in the Euro, throwing the E.U. into even deeper Chaos and cause a rally in the dollar (as seen in the positive divergences of the Dollar Index and UUP above) which should have a very negative impact on the US stock market.

Quick Wrap

Today seems to be another bad day for those who thought QE2 was going to be a supercharged version of QE1, where you just front run 1 of about 5 stocks and the market closes higher. Today the submitted to accepted ratio closed at a very (formerly bullish anyway) 3.5x which would have sent the market rocketing higher under the QE1 POMO regime. Today, none of the POMO darling stocks were able to catch a bid and the market seemed to be more in line with the currency pair of EUR/USD then it did with anything having to do with today's POMO day, as was the situation on Friday.

Above is where the US markets opened and the afternoon's downtrend in the Euro.

2 days does not make a trend, but it certainly hints at the possibility that the trend of front running POMO days may be over, which would leave the market to fend for itself. Many things come to mind, especially the insider selling over the last few months that reached a crescendo last week.

It's not yet time to do a victory lap, but it is encouraging that we may see a more normal market in which stocks and the market rise and fall due to market dynamics and not a seemingly never ending supply of QE money through POMO.

DIA 1 min could be a positive divergence or just timing.

 DIA 5 min is confirming the move down

 FAZ a min in a leading positive divergence

 As is the FAZ 5 min chart

 NFLX looks like it was a head fake thus far

 QQQQ 1 min may be showing a positive divergence, it looks the strongest.

 although the 5 min is confirming..

 SPY again may be showing a positive 1 min divergence

 but the 5 min is confirming...

 XLF seems to be showing a 1 min positive divergence..

However, the 5 min looks like a leading negative divergence.

TMV

As a member just pointed out, there goes TMV, our short play on the long end of the bond.

TMV didn't quite make it to the 10-day moving average on the pullback, which shows this one is coming out of the base with a lot of momentum.

3C Update

 DIA 5 min is pretty close to a leading negative divergence.

 SPY 1 min is in a leading negative divergence.

SPY 5 min is also approaching a leading negative divergence.

NFLX may be a false breakout, which would be very interesting. The downside volume has picked up, but that can sometimes lead to a short term bottom, we'll have to see what happens here, but it's nearly a bellwether to watch.

NFLX

NFLX loks like it's making a breakout move.

Update

Here are the only changes in 3C right now, slightly worse then the last update. The changes are there is now a negative divergence on the SPY 1 min chart and a negative divergence on the DIA 5 min chart. The SPY 5 min negative divergence remains.

Market Update

So far the 1 min chart and 5 min charts are confirming price action in the DIa and the QQQQ, only the 1 min chart in the SPY is confirming, the 5 min chart is in the early stages of a relative negative divergence.

Price in the markets this afternoon looks very much like the Euro's bounce within the established downtrend.

Here's the Euro/Dollar 5 min chart. The red arrow is where the week started for the FX markets.

Trade Management

Finding that trade with the right risk:reward ratio and high probabilities is just the first part of a successful trade. The second part is "Position Management".

I'm using RINO as an example for a few reasons, one is the spectacular fall it has seen recently and today (down 57% and 25% respectively). The other reason is because RINO is an excellent example of what I tell you all the time, "To make money in the markets, you must see what others have missed".

Lets look at the charts...

 Okay, lets assume that you entered the Rino trade on the breakout from the bullish descending wedge. The first thing you should know is your rough target before you even enter the trade so you can use risk management and proper position sizing and understand your risk to reward ratio and decide if the trade is worth it. Assuming you entered, one of the first targets you must consider is the base of the descending wedge as wedges usually retrace their base. That means your first profit target would be around $16.50 where the smaller red arrow is. Your second target would be the next major resistance point which is at the longer red arrow around $19. At either of these targets, you want to be watching the trade carefully that it is confirming the uptrend and not deteriorating. If you look at volume very carefully (remember-it's not the huge spikes, but the subtle changes) you will see rising volume on the uptrend then it goes into falling green volume-this is a bad sign. Finally we see rising red volume. At this point volume is not confirming the trend, it's actually warning there's a problem.

 I often say that the 22 day moving average is a good approximation for my Trend Channel which is the objective stop system I use. When Rino broke below that 22 day moving average, I would be making exit plans, especially seeing a negative divergence in RSI (below in white-it fails to make a higher high and confirm the trend). Finally RSI crosses below the 50 (middle line) which is an exit.

Finally, if you have 3C (if not you can always email me) or some other money flow indicator, you may have seen the negative divergence at the top, that would be a cue to start exiting the trade.

Rino is an excellent example, once again, because of the subtlety of the signals, but they are there. Remember, "see what others have missed".

Update on Financials

FAZ has been recovering lately, here are the 1 min charts for this afternoon.

 A leading positive divergence in FAZ

XLF in a negative leading divergence.

Also, interestingly, the usual POMO suspects are all down thus far, AMZN, NFLX, PCLN, BIDU, etc.

Precious Metals

As suggested in last night's post, SLV is outperforming GLD today thus far, but both now have 3C 1 min negative divergences-GLD's being worse.

 GLD 1 min

SLV 1 min

Noon Update

 The  DIA is in confirmation

 The QQQQ was negative off the opening gap and has a relative negative 1 min divergence now.

The SPY also has the same divergences as the Q's above.

Right now, the Euro is in a downtrend, but is bouncing a bit as a normal part of a downtrend.

POMO OVER

The much watched submitted:acceptd ratio was at 3.5 which in the last round of QE would send the markets higher. So today, if we don't see a move from this low ratio, the proverbial punch bowl may have been taken away leaving the market to fend for itself. We'll see.

Morning Update

So far not much on the charts, just waiting for the POMO to end. Greece is back in the spotlight with some trouble again this morning. I'll follow up on that after the POMO.