S&P 500 head and shoulders pattern confirmed

A repeat performance of the bear market rally breakdown seems to be in the works now.  The first downside target is 875, then I believe we could see a large sell off to around 775-800 if that level breaks.  After that a retest of the lows is almost certain.  The image below illustrates the pattern on a three month / one day bar chart.  There may be some support at the 200 day moving average around current levels as the market is oversold.  A bounce before continuing downward is not out of the question.

S&P 500 head and shoulders pattern

Look out below! Market setting up to fall.

With the last legs of this rally really more of a sideways trade on very light volume, we’re starting to see some signs that a rolling over process has begun.  While there is plenty of reasons to be a bear, the most compelling reason to be a bull was the notion that things were getting worse at a slower pace.  The idea was that we overcorrected to the downside in March, facing what appeared to be a depression, and having (at least temporarily) taken that off the table, we see very attractive valuations.

We’ve had a nice run already

After about 40% off the bottom, I think we can say the valuations have gotten ahead of themselves.  In addition, there are no signs of an earnings-led recovery or any real green shoots that indicate we’ll be seeing a pronounced rebound in the economy.  Most of the optimism is coming from China, which seems to be hoarding commodities for its own hedging game against the falling US dollar.  While hunger for raw materials is good for the markets, if it is not a genuine appetite that stems from growth, but rather a desire to build a materials portfolio for the Chinese government, then much of the optimism in energy, materials and other related sectors is overdone.

The biggest driver is not behind the wheel

The consumer is facing more foreclosures, credit card defaults and an increasingly tight employment picture.  This is not the atmosphere that is condusive towards a consumer-led recovery.  Consumers probably have 5-10 years before they can start to lever up again on their credit.  Other emerging markets are attempting to build consumer economies, and facing tremendous headwinds from populations who treasure thrift rather than spending.  The appetite for material possessions is not nearly as strong nor are earnings per capita elsewhere enough to sustain the vacuum left behind by the American and European economic implosion.

Greenflation not back, yet

Green energy is a promising sector when crude oil is above $100.  Right now the motivation is just not as strong with consumers or companies to make big moves in to more environmentally sustainable energy.  I believe that once inflation makes energy less affordable the appetite for green energy will increase.  This may be a while off depending on how fast the global economy can pick up the slack left behind from the last bubble.

Climb a plateau once its peaked…

So where is the catalyst for the next rally?  What could drive equities higher?  The only way we’re going to see a tremendous rally from here is if we see much more currency debasement and intentional inflation.  That kind of manipulation could continue to lead markets higher, but at the cost of the currency that equities are priced in therefore nullifying much of the gains.

Or fall right off?

I think the market is setting up to fall.  I’m not so sure we’ll retest the lows or not, but I do think we’ll see some more selling as fundamentals begin to play a center role in the stock market again.  On a technical note, we may be building a pretty significant head and shoulders pattern on the S&P 500.  Today’s action seems to confirm the right shoulder.  We could see a retest of 875 or lower if it continues to play out.

New risk: Blackrock buys Barclays Global

Global systemic risk is back in fashion, as Blackrock buys Barclays Global Investors, creating a combined $2.8T balance sheet, much larger than the US Federal Reserve.  If this newly formed titan ever had large its own liquidity problem it could threaten to once again bring down the world financial system.

Of course Blackrock has a number of curious aspects to it as well.  Merrill Lynch had a 50% stake which Bank of America gobbled up along with Merrill in a backroom deal with Uncle Sam.  Now Bank of America has a large (supposedly non-voting and non-influential) stake in this behemoth.  I believe this is cause for concern, because among other duties, Blackrock helps the Federal Reserve manage some of its assets and performs consulting as well.

How does Bank of America have a stake in a company that has some influence on the value of its assets in the eyes of what is supposed to be an independent central bank?  This question has come up in congressional hearings and been asked by pundits as well as traders.

Apparently there’s absolutely no rules to the game as long as the biggest banks survive.. at least for now.

The stock market is poised for more weakness

Now that we’re off the 925 S&P 500 support area we see a rolling top forming on major indexes here and around the world.  A pullback in equities and commodities may occur as a result, providing opportunity to further short the market and gain more exposure to commodities during buying opportunities.

I believe the short term target could be as low as 900 on the S&P and interim if we see a large correction we could retest the 875 area.  The main determinant factors here will be the news flow, economic data and hunger for raw materials.

The correction could also remove the possibility of the 50 day moving average crossing above the 200 day moving average, which fund managers are looking for as further indication that the market is worth buying in to at these levels.

Bulls continue to cling on the notion of green shoots, but the green shoots look more like poison ivy according to many traders who are closely tuned in to the technicals and fundamentals.

Hyperinflation: The coming storm?

The flight from US treasuries, equities and the dollar is a category five hurricane against the once safe haven.  Is it fear of hyperinflation or just a ripple of the recession?

Speculation is increasing that the US will not be able to pay off its mounting debt and it is showing in the markets.  Most currencies, especially commodity driven ones like the Australian and Canadian dollar, are rallying.  The US treasury bonds are selling off at an alarming rate.  The stock market is starting to either consolidate or make a larger move down.

If the hyperinflation hits and creates a panic, this type of activity will increase markedly.  If instead this is a ripple from the recession tarnishing the confidence of other markets it is still a negative because it shows that central banks around the world are not supporting US debt to the degree that they did in the past during a time when the US is creating more debt than ever before.

The implications are vast and will have an effect on purchasing power, employment, wages and the types of jobs available moving forward.

Hedging inflation in 2009 and beyond

What do silver, the Australian and Canadian dollars all have in common? They should all be considered good inflation hedges for US dollar-based portfolios.  The Australian and Canadian dollar are commodity-based currencies, because their underlying economies are very much driven by the production of commodities such as gold, silver, oil, industrial metals, etc.  Silver itself is very undervalued against ever increasing real world demand for coinage, jewelry, electrical and chemical applications.  The combination of all three assets, in two different asset classes (foreign currencies and commodities) provide strong upside as the dollar weakens and world growth comes more from emerging economies than industrial economies.

The Australian dollar ETF can be bought through symbol FXA, the Canadian dollar ETF through FXC and silver through SLV.  I currently have holdings in all three assets and advise those concerned about inflation to consider what their long term investment goals are and how these assets may or may not fit in to their strategy.