Market Needs To Break The Pattern Of Late Day Selling. Today’s Rally Looks Good!

The market can't seem to get out of its own way. Every time we see a decent rally, late day selling pushes prices lower. In today's chart you can see that pattern. This is a very bearish sign and it indicates that investors are still reducing risk. Since last Thursday's monster rally, we have not seen any follow through. Friday looked promising and then Fitch spoiled the party by lowering Spain's debt rating. Yesterday, prices rebounded after a weak opening and the market traded in positive territory most of the day. Heavy selling set in during the last hour and we closed on the lows of the day. Today's rally feels pretty solid. Prices have continued to grind higher and there are nearly twice as many advancers as decliners. Analysts are very bullish heading into this week's employment numbers. Tomorrow, we will get initial jobless claims and the ADP employment index. Jobless claims have been relatively weak and the four-week moving average is moving higher. Analysts are looking for 455,000 new claims and that is a relatively big number. Anything higher will weigh on the market. Consensus estimates for the ADP index are 56,000 new jobs. It measures private sector employment and will be a critical number since corporations have been slow to rehire. Friday, the Unemployment Report will be released. Analysts are expecting 500,000 new jobs. The huge majority of new jobs will come from the public sector and census workers will have a big impact. The census workers will only be employed for a few months and it will have a negative impact this fall. I believe the employment scene will start to deteriorate in coming months and this week's numbers could mark the peak. Government stimulus is more than half over and all of the census workers have been hired. Each month, the number of state and local layoffs will grow and they will more than offset federal job growth. S&P 500 companies get more than 25% of their profit from Europe and they will delay hiring until conditions stabilize. Yesterday, ISM manufacturing showed nice growth. It came in at 59.7 and any reading above 50 shows economic expansion. Tomorrow, ISM services will be released. This sector accounts for 80% of our economic employment and it is a very important number. The service sector has been strong in recent months and I'm expecting a good number. However, I feel these two indicators may also start topping out. Inventories have been replenished and I don't believe demand is sustainable. This week, China and Europe posted slower growth as measured by PMI. The market is desperately looking for “a silver lining”. This week's statistics should be bullish for the market. There are still those who believe that strength in the US and China can overpower weakness in Europe. I don't really care where the strength comes from; I just want to see a rally. That will drain option premiums and it will give us another opportunity to buy puts. The next big move is down. The major wealth centers of the world are debt laden and they have painted themselves into a corner. When one domino falls, the rest will follow. Credit spreads are starting to rise and they have reached levels not seen since November. This means that interbank transactions are less "lubricated" than they were a few months ago. It means they are less inclined to do business with each other and that counterparty risk is increasing. If this trend continues, a credit crisis will emerge. Europe is still very weak and their problem is growing as economic conditions deteriorate. The market feels that sovereign default is inevitable and that it will lead to the breakup of the EU. The Eurodollar continues to get crushed and comments from the ECB carry little weight. The window for selling out of money put credit spreads has pretty much passed. Wait for a rally and look for signs of resistance. Then, start selling out of the money call credit spreads. I do not believe the market will be able to rally above SPY 115. Also, look for put buying opportunities when the VIX gets below 25. That is still relatively high, but we are not likely to see it drop below 20. Fear has returned to the marketplace and elevated implied volatilities will be the norm the rest of the year. Good news is expected by the market this week. Any surprise is likely to come on the downside, but I’m not expecting that to happen. We are likely to rally the next two days. Once the dust settles and this bounce runs its course, sellers are likely to return. That could happen early next week. Keep your bullish trades small and be ready to take bearish positions on a failed rally.

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