The biggest news in the last two weeks hit the tape and we are seeing a light round of profit taking this morning. China’s flash PMI fell to its lowest level in nine months (47.8). Initial jobless claims came in at 372,000 and that was slightly higher than expected. Trading volumes have been anemic and the level of conviction has been low during the recent rally.
China’s economic activity is declining and traders are expecting another round of easing from the PBOC. This will keep a small bid to the market. It’s important to note that China’s stock market is near a 3 1/2 year low.
Miners in Brazil said that China’s boom has ended. That sentiment was reiterated by Australia’s Resource Minister today. We can expect a rate cut from the PBOC and a continuing decline in economic activity. Fortunately, yields are still relatively high and easing does have an impact.
The ECB and the Fed are not so fortunate. Easing has not sparked economic activity. The FOMC minutes were released yesterday and the Fed sounded more dovish. The timetable for QE3 will be moved forward. As soon as action is taken, I believe traders will “sell the news”.
Economic activity in Europe was slightly better than feared month over month. Flash PMI’s came in at 46.6 and that is still very weak.
Interest rates in Spain and Italy have inched higher and that is weighing on European stock markets. Yields pulled back sharply in recent weeks and the move was over-extended because of short covering. The ECB will support yields behind-the-scenes so that they don’t lose credibility. They will want to defend their plan in the early stages and it can and it has gained traction.
The market will grow anxious and traders will want to see a blueprint for a centralized bank in coming weeks. If the EU can’t produce one, equities will retreat.
Greece is negotiating its next bailout with the troika. Spending cuts are behind schedule and revenues are declining. That means it will miss budget targets by a wide margin and the rhetoric will be heated. In the end, they will get their money.
Tech stocks have come under a little pressure. A couple of analysts have downgraded Apple and it impacts the entire market. Dell and Hewlett-Packard disappointed this week and the guidance was dismal.
The news front is very quiet and Q2 GDP will be released next Wednesday. Trading volumes have dropped to their lowest level since 2007 and the action will be lackluster next week. Traders will take time off and volumes will drop into Labor Day.
Today’s news was not good, but it wasn’t horrible either. As long as traders believe that the ECB/EU will stay ahead of the curve, credit concerns will subside. Economic conditions are deteriorating, but central banks are ready to take action. Stocks are attractively valued (forward P/E of 13) and balance sheets are strong. This rally still has a little upside left in it and today’s dip will be erased.
Stocks tend to rally into major holidays and there isn’t any news to stand in the way. The market will grind higher and we will break out to a new four-year high on light volume. That move will lure bullish speculators in and that will set us up for a swift decline. When the SPY breaks below $140, they will bailout of long positions.
There are dark storm clouds on the horizon. China has been the growth engine for most of the world and we won’t have that to lean on. Global activity will continue to deteriorate and the market declines will no longer be completely tied to European credit concerns. The fiscal cliff is approaching and that will reduce our economic activity.
In light volume conditions I keep my size very small. I am also limiting my overnight risk exposure. I went into today’s economic releases flat. I believe that the market will find support and I am day trading strong stocks that are breaking out above horizontal resistance. In particular, I am looking for stocks that are in an uptrend and have consolidated in a tight range during the last two months. Now, they are breaking through that resistance. These patterns tend to produce sustained moves. Use the Live Update table to find them.
Keep your positions small next week and trade the rally. There are not many news releases scheduled and I am not expecting any surprises. Know that one bad event could spark a round of selling. Tread cautiously and you will be in good shape.