Calm Before the Storm. Major News Ahead. Watch For Signs of Profit Taking.

July 30, 2013

The market has fallen into a pattern the last few days. Sellers test the downside early and stocks spend the rest of the day recovering. End of the month/beginning of the month fund buying will support the market for a couple of days.

Overnight, the PBOC added liquidity and China’s market rallied. They might be front-running a dismal PMI number. Even if their activity continues to slip, traders will assume that the PBOC will provide a safety net. Last week, Chinese officials said that growth under 7% would not be tolerated.

President Obama is considering a tax holiday for offshore corporate profits. This could be very bullish for the market. Trillions of dollars could be used for reinvestment or to repurchase shares.

Major economic releases will hit this week and it all kicks off tomorrow. The FOMC will also release its statement tomorrow afternoon.

I believe the numbers will show meager expansion as we hover above the zero line. If the jobs number on Friday comes in above expectations (179,000) we could see selling. This would give the Fed the ability to taper in September.

Earnings season is more than half over and these are the worst comps we’ve seen in years. Revenues will increase 1.1% and profits are expected to decline .6% year-over-year. Good news is priced in and the strongest companies have released.

Asset Managers will not chase stocks at an all-time high. They will wait patiently for evidence that demand is improving global. Profit taking will set in and bullish speculators will get flushed out.

When the pattern I referenced in the first sentence is broken, we could see follow-through selling. In the next week I expect to see a decent decline on the open. Prices will stabilize and bullish speculators will pile in expecting the market to recover. Unfortunately, that rebound will be short-lived. Stocks will roll over intraday and we will close on the low. Asset Managers will pull bids and we will hit an air pocket as bullish speculators run for the exits.

The scenario I outlined will push the SPY below $167 and that will spark additional selling. I believe we will drift back into the middle of the trading range (SPY $163) and we will sit there for a few weeks. Traders will take time off in August and Asset Managers will wait for improving economic conditions.

I am not looking for a meltdown, just a normal pullback. The last phase of this rally came on very light volume and it is vulnerable.

I am buying calls on breakouts and puts on breakdowns. Earnings season is providing a lot of action and these moves typically last a couple of days. When the momentum stalls I take profits and look for the next opportunity. This is a hedged approach and my overnight risk is fairly low. Once we break below SPY $167, I will shift to bearish trades only.

Tread carefully and know that this rally is in the ninth-inning. This is the calm before the storm and I’m not expecting much movement today ahead of major economic releases. The news will be fast and furious the rest of the week. Get ready for some action.
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