No Help From GOOG or Financials! Soft Economic Numbers Are Taking Their Toll.

Yesterday, the market spent most of the day in negative territory. With one hour left to go, BP announced that the well was capped and the oil was contained. Energy stocks rebounded on the news. A few minutes later, the SEC that it would release major news after the close. Traders suspected that it had reached a settlement with Goldman Sachs in the fraud case. Financial stocks rallied on the news. This morning, Bank of America and Citigroup posted results. Both stocks traded lower on the news. Credit conditions are stabilizing, but topline growth is nonexistent. Trading volumes are down and investment banking is at a standstill. I consider J.P. Morgan to be one of the strongest banks in the country and when I saw the negative reaction to their earnings, I suspected that financial stocks might resume their downtrend. If you recall, statements from State Street Bank and J.P. Morgan two weeks ago sparked a short covering rally. The market ran up to resistance at SPY 110 (50-day moving average and downtrend line) and stalled. Now it looks like this was just a temporary bounce. The financial reform bill was passed and that celebration was short-lived. Banks will have a very tough time making money in this economic environment. Newer regulations will also cut off prior revenue streams. Consumer sentiment dropped to its lowest level in 11 months. This is just another weak piece of economic news. Throughout the week, retail sales, Empire Index, the Philly Fed, and wholesale inventories disappointed. The Fed joined in by lowering its GDP forecast for 2010. Conditions are softening and the market will resume its decline. In the next week or two, economically sensitive companies will start releasing earnings and their guidance will be cautious at best. The market is likely to drift lower as a double dip recession gets priced in. If credit conditions in Europe stabilized, this could be an orderly decline that finds support around SPY 95 in October. If economic conditions in Europe start to deteriorate, the credit crisis could escalate. I will be watching bond auctions very closely and any spike in interest rates could ignite fear. One or two smaller nations like Latvia, Bulgaria or Romania could get the ball rolling. Should this materialize, you want to hang onto bearish positions because the bottom could fall out just as it did in the fall of 2008. We aren't quite to that juncture yet. Earnings should be decent next week and corporations are sitting on piles of cash. The economic statistics have started to roll over, but more evidence is required. Traders need to see that he knew trend is unfolding and that this is not just a mid-summer "soft patch". Look for choppy trading next week. As long as we stay above SPY 105, the selling will be relatively contained and activity should settle down. However, if we break below it, things could get ugly. On the next breakdown, we are likely to test SPY 100. I have been buying puts on financials. The headwinds are blowing for these companies (financial reform, economic slowdown and the potential for a Euro credit crisis). I am scaling into put positions and I won’t get too aggressive until we breach SPY 105.

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