Market Wants “Dovish” Rhetoric Today. Watch Intel. The Reaction Will Be Very Telling!

July 17, 2012

The market started the week off on a quiet note. Traders are focused on the Fed Chairman’s testimony before Congress today. They are expecting “dovish” statements after a weak round of economic releases.

The FOMC minutes were posted last Wednesday and traders were disappointed that QE3 is not being considered. That FOMC meeting took place weeks ago and the dismal Unemployment Report might soften the rhetoric. Central banks around the world (BOE, ECB, BOJ, PBOC, Bank of Korea and the Bank of Brazil) have recently eased and the Fed will come under pressure.

I’m expecting cautious statements and an accommodative tone. This might not spark a massive rally, but it should strengthen the bid.

Economic releases are fairly light this week. Empire Manufacturing came in better than expected yesterday, but retail sales fell .5%. Consumers are very cautious and many brokerage firms have lowered Q2 GDP forecasts (1.7%). Industrial production was slightly better than expected today and the housing numbers Wednesday and Thursday should be encouraging. The economic releases pick up next week and China will post its flash PMI Monday.

The earnings news has been decent. J.P. Morgan, Wells Fargo, Citigroup and Goldman Sachs beat estimates. The financial sector will not be a drag on this rally. Tech stocks have been beaten down and Intel releases after the close. Later this week we will hear from eBay, IBM, QUALCOMM, Google and Microsoft. The guidance will be critical.

The strongest companies announce early in the earnings cycle and that typically produces a nice rally. I believe the SPY will rally above $136 and shorts will get squeezed.

If we don’t get a rally this week, we are in deep trouble. Attractive stock valuations and strong balance sheets are the best thing the market has going for it. Central banks have been easing and that should provide a small tailwind.

Pre-announcement warnings have been greater in Q2 than they were in Q1. Earnings estimates have only been lowered by .8% on the S&P 500. I believe there is plenty of room for disappointment after the first two weeks of releases.

European interest rates have temporarily stabilized. Last week, Italy held a successful bond auction after Moody’s downgraded its credit rating by two notches. I suspected that the ECB supported the auction, but now I am hearing that Italian banks purchased 50% of the offering. They were pressured by the Italian government. If it’s true, this is not a good sign. It means that the global demand for Italian debt is weak.

I am very cautiously playing the upside this week. If the market can’t get going, I will quickly pull the plug. I sold out of the money put credit spreads to distance myself from the action and those positions will perform if the market treads water for a week.

I am anxious to get short and I am struggling to temper my bearishness. If tech stocks can’t attract buyers this week, I will start buying puts.

Try not to read too much into today’s price action. Traders will evaluate every word during the Fed Chairman’s testimony and they might not like what they hear. The bigger “tell” will come after Intel announces. A weak reaction could spell trouble. A good reaction and we will get the rally.

Keep your size small and wait for the earnings reactions.
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