Tuesday, October 12, 2010

So Far Looks Like the Fed Action was Already Priced in; Now What?

Market internals today were modestly bullish, but nothing at all what I'd expect with the Fed minutes coming out today.  Volume was just above 900 million shares and advancers/decliners were at a typical ratio for the way the market closed in my view.

Monday, Janet Yellen, the vice chairman of the Fed got some bulls a bit nervous when she appeared to dissent from the overall consensus Wall Street thought the Fed had about QE2.  In a speech, she cautioned that constantly easing monetary policy by establishing extremely low interest rates and expanding the Fed's balance sheet will lead to significant problems down the line.  So some folks may have started to doubt the whole QE2 scenario, and the Fed backstopping everyone's equity positions, so they sold off a bit yesterday into today.  But amazingly, the VIX has fallen off a cliff during that whole time, suggesting that it was just mild profit-taking, but no real fear.  So think about that, look at the intraday chart and see the sharp decline late Monday into early this morning.  And that was probably just mild profit-taking.  Imagine the decline that will occur when real fear sets in and the bulls start dumping stock because of it.  Well the market ended up declining in a 3 wave pattern over that period and then rallied today once investors saw more of a consensus, not fracturing, in the overall Fed, and that ultimately it's Bernanke that makes the decision.

But the market managed only a very slight gain in the S&P and Dow, the Nasdaqs faired a little better.  So it appears so far the Fed's actions are already priced in.  Now the details of QE2 are not on the table yet, we may not know that until the November meeting.  But for the short term, the Fed appears well on its way to establishing QE2, which in my view means that the economy is hemorrhaging so bad after all the stimulus up to this point that they have to give it another massive stimulus injection.  That's like having a brain hemmorrhage that's so bad that you have to go to the hospital for the 6th surgery to fix it, and you're happy about it.  The markets are happy about the QE2 brain hemmorrhage surgery here.  Once the QE2 nonsense fizzles, the market should fall hard.

So the VIX closed almost right at where it closed yesterday, and in doing so it closed beneath the lower bollinger band again today.  So the caution I expressed this morning can be thrown out about not reading too much into this signal because yesterday's close occurred on such light volume.  Today's close below the bollinger band confirms the setup for the signal.  Once the VIX closes above that lower bollinger band, it will again issue another stock market sell signal.  That would leave two sell signals in place in a two month period without any meaningful decline occurring.  That's either very bullish, or very bearish.  With the wave count, momentum and sentiment at topping levels right now, I'm leaning strongly towards this VIX behavior being very bearish.  This market should move down fast.  Be ready for a violent move to the downside soon.  Although I'm sure many of you already are and have been for quite some time.

The wave count is mature, momentum is still diverging slightly on the daily charts, volume remains low on almost all of this recent rally phase, there are divergences in various markets, especially with financials.  This market is forming a major top and the evidence continues to suggest a major selloff will occur once the bulls finally give up.  But the bulls have held up amazingly well so far....so we just have to wait for them to give up.  With the Fed stuff out of the way, the bulls can throw in the towel at any time now.

It appears there's some type of ending diagonal-type pattern in the indices now.  Momentum, volume and internals are diverging signficantly from the prior rally wave which I labeled Subminuette wave iii, and the rally from the Subminuette wave iv low looks weak and choppy, much like an ending diagonal, although its structure is far from perfect.  The ending diagonal formation looks more clear and probably when you look at the Nasdaq chart though, but it still tells us the same picture, a top is very near and when it occurs the move down will be fast and violent.  It's just a waiting game now.

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The top euro chart is that of the daily that I posted earlier Monday.  The chart below it, and directly above here, is my short term wave count.  I know it's a bit cluttered, but once we get a bit 5 wave decline I'll clean it up and eliminate the smaller subwaves.

This count can also be seen as a 3 wave ABC correction downward, instead of a wave ((1))((2)) and (1) that I labeled it here.  So it's key we keep getting lower highs and lower lows to keep this count on track and be able to lessen the likelihood of the ABC alternate from contention.  Right now I see Submicro wave (1) being corrected in Submicro wave (2).  So Submicro wave (2) needs to stop short somewhere below 1.4012.  As long as the euro stays below this level, I want to be aggressively bearish this pair.  But as a swing trader, I'm already aggressively short this pair for a long term trade.

What's also of note is that with stocks rallying to new highs in most of the major indices, the euro posted a strong rally too, but failed to make a new high as well.  And the USD/JPY and GBP/USD barely moved at all.  I thought we'd get a bigger move in currencies after the Fed minutes were released, but we didn't.  If these currencies keep their highs intact and move lower into the Asian and European sessions tonight, it may be good sign that they've topped and are moving sharply lower, primarily the pound and euro against the dollar.  And this should translate over to a big move down for stocks too.

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