And as you're about to see, there are many potential reasons why in this week's multitude of economic numbers.

Economic Calendar

Perhaps a lack of economic news last week was just what the doctor ordered… nothing bad to bomb the market after a painful three-week stretch of alarming economic data.  Whatever works.

That said, we did get a couple of nuggets last week on the real estate front.  Existing home sales sold at an annual pace of 4.62 million in April, while new home sales rolled in at a pace of 343K.  Neither was dramatically strong, but both were better than March's numbers, and both were near inline with expectations.

On the flipside, durable orders growth was tepid, and negative if you don't count automobiles.  April's orders only grew by 0.2%, and actually fell 0.6% when removing transportation from the equation.  The ex-transportation number fell well short of the expected 1.0% improvement.

Economic Calendar

Clearly there's too much in the lineup this week to preview all of it; we'll just have to hit the highlights.

Tuesday:  Will the Conference Board's consumer confidence levels mirror the improving ones from the Michigan Sentiment Index (which just hit the highest level since October of 2007)?  If so, it would speak volumes in favor of the bull market.

Thursday:  We'll get an omen of the official government jobs-growth number (on Friday) with the ADP employment change figure.  The expected increase of 145K is better than last month's disappointing 119K new payrolls, but it's still not great.

Friday:  Buckle up, 'cause it's gonna be a big day.  We'll get that official jobs-growth number; the pros are looking for 172K new private ones.  The unemployment rare should roll in at 8.1% again.  We'll also hear last month's auto sales, though we're not looking for anything dramatic in either direction.

Stock Markets

Good news – the S&P 500 Index (SPX) (SPY) fought its way back above the 200-day moving average line (green) last week.  It was a 'just barely' situation, but the deed was done all the same.  Even when the bears pushed back on Friday, the bulls used the 200-day line as a floor.  All told, the SPX gained 1.7% last week following a three-week rout.  Take a look.

S&P 500 – Daily

The question is, can the market build on last week's bullish effort, or was it just a dead-cat bounce that's bound to reverse this week?

There's still no clear answer, but the odds favor at least a little more near-term upside.  The CBOE Volatility Index (VIX) (VXX) still has plenty of room to move lower… before it hits a wall.  And, with the high-to-low span for the S&P 500's entire dip being about 8.5%, the selloff has sufficiently brought about a capitulatory mindset. T hat'll do for now, assuming nothing out of Europe fires any more surprise torpedoes at us. 

Even so, the bigger question remains – will the bigger bullish trend (QQQ) (DIA) (IWM) resume with a little more bullish traction, or is it just a short-term reprieve before we ultimately move to lower lows (say in July or August)?

At this point, it could go either way.  The lower 20-week Bollinger band (orange) is waiting to act as a floor at 1287, and the 40-week (200-day) average line is also right there.  Neither of those potential floors did the weekly chart of the S&P 500 (below) any good last August, but more often than not, those band lines to contain the index, and reverse trends when brushed.

S&P 500 & VIX - Weekly

Bottom line? From a technical perspective, we see more upside than downside, though there's a fair amount of both out there right now.  Traders aren't quite sure what to do here, and that's going to keep things muted in either direction for a while.

So that was the technical perspective.  What about the fundamental reality (especially now that earnings season is over)?  In simplest terms, trailing and projected earnings still support the bigger bull market, even if they can't stave off a short-term rough patch like the one we just went through.

As it stands right now (through the end of Q1), the S&P 500 is trading at a P/E of 13.44.  That's not as cheap as it was when the P/E hit 11.95 in September of last year, but the current reading is pretty much rock-bottom compared the last 22 years.

S&P 500, with Earnings & P/E Ratio

What's going on?  Why are people so averse to owning stocks when they're pretty much as cheap as we've seen them in a couple of decades?

In simplest terms, fear has hijacked the market.  Traders are fearful that the projections are unattainable targets.

It's understandable, considering how nobody saw the 2008 crisis reaching the magnitude it did, and few saw the 2001 meltdown coming.  Having been burned too many times, investors are understandably skeptical now.

The whole thing brings up a philosophical idea though – bear markets aren't likely to start when they're widely expected.  Yes, it's a contrarian notion, but contrarianism tends to work regardless of the timeframe in question.  If this were really a recession or a bear market (or both) around the corner, the masses would either be ignoring it, or denying it.  There's actually quite a bit of agreement on the matter now, giving stocks a wall of worry to climb.

Point being, we actually remain long-term bulls no matter what the market is ready to do in the near-term.

Trade Well,

Price Headley

Is the 'Equity Cult' Dead?  Stocks Most Unloved in 50 Years

Markets:  Out of Stock – The end of a six-decade passion for equities could lead to a less flexible, more conservative model of corporate financing.

Nikhil Srinivasan, the man who decides where one of the world's biggest insurance funds places its assets, wants to know why he should invest in stocks.  "We are delivering what policyholders want," says Allianz Investment Management's chief investment officer, speaking from his Munich base.  "So there is no need to get aggressive about equities."

Allianz with a total of about $2.1 trillion under management, has only 6 percent of its insurance portfolio in equities, while 90 percent is in bonds.  A decade ago, 20 percent was in equities . It is far from alone: institutional investors, from pension funds to mutual funds sold directly to the public, have slashed holdings in the past decade.  Stocks have not been so far out of favor for half a century.  Many declare the "cult of the equity" dead.

The consequences are already being felt.  Even the mighty Facebook (FB) is finding it hard to raise equity capital.  With equity financing expensive, many companies are opting to raise debt instead, or to retire equity.  As equity markets shrink, so does the sway of the owners of that equity, reducing shareholder control over companies – and challenging accepted concepts of corporate ownership.

Further, with equity returns virtually flat for more than a decade, the incentive for investors to take risks by funding smaller, more entrepreneurial companies has declined – eroding a process that has traditionally given managers the flexibility they need to grow.  Capitalism with less equity finance would follow a much more conservative model.

"Ultimately what is going on is that fundamental tenets of capitalist society are being questioned," says Andreas Utermann, chief investment officer of the Allianz division that manages $376 billion in assets for external clients.

He forecasts that this will lead to a big transfer from savers to "the profligate and irresponsible" as the benefits of long-term saving are eroded. "The risk is that there will be a backlash by savers. The [impact will be felt] societally, politically, at a regional level and globally. We are still at the beginning of the whole process."

Compared with bonds, stocks have not looked so cheap for half a century.  During this period, the dividend yield – the amount paid out in dividends per share divided by the share price, a key measure of value – has been lower than the yield paid by bonds (which moves in the opposite direction to prices).  In other words, investors were happy to take a lower interest rate from stocks than from bonds, despite their greater volatility, reflecting their confidence that returns from stocks would be higher in the long run.

But now investors want a higher yield from equities. According to Robert Shiller of Yale University, the dividend yield on U.S. stocks is today 1.97 percent – above the 1.72 percent yield on 10-year U.S. Treasury bonds.

Some hope that the cycle is about to turn and that the preconditions for a new cult of the equity will emerge even if it takes time.  Few people doubt, however, that the old cult of the equity – which steered long-term savers into loading their portfolios with shares – has died.

This is stunning in light of overwhelming evidence that, in the long run, equities outperform. From 1900 to 2010, they beat inflation by 6.3 percent a year in the U.S., according to a widely used benchmark maintained by London Business School, compared with only 1.8 percent for bonds.  In the U.S. and the UK, public pension funds had allocations to equities as high as 70 percent only 10 years ago.  They are now down to 40 percent in the UK, and 52 per cent in the U.S.

At least two critical factors have combined.  First came two stock market crashes since 2000, which shook faith in equities.  Second, institutions have faced growing regulatory and business pressure to withdraw from stocks.

Indeed, equities have not been so cheap relative to bonds since 1956, which turned out to be one of the best moments in history to have bought stocks.  Back then George Ross Goobey, the British fund manager who ran Imperial Tobacco's pension fund, had announced to great skepticism that he was shifting his entire portfolio into equities, sparking the cult of the equity because dividend yields exceeded bond yields.

Some see similar reasons for long-term optimism today – at least once heavily indebted households and governments complete the process of deleveraging.  Amin Rajan of fund management consultancy Create Research says: "Equities are now undervalued by any measure.  There's a big wad of money sitting on the sideline waiting for a green light on the debt front.  We may see the mother of all rallies at the first hint of a credible breakthrough."

This year Goldman Sachs published a widely read report arguing that: "Given current valuations, we think it's time to say a 'long good bye' to bonds, and embrace the 'long good buy' for equities as we expect them to embark on an upward trend over the next few years."

However, this argument is more about bonds than stocks.  With the recent crashes preceded by great bull markets, stock performance in the past 30 years has not been historically unusual.  But yields on U.S. Treasury bonds peaked in 1981 and global sovereign debt prices have risen steadily ever since.  Buoyed initially by the U.S. Federal Reserve's success in bringing inflation (the enemy of bondholders) under control, and more recently by their "haven" status as investors sought to protect themselves against risks elsewhere, government bonds are now more expensive than at any time in history.

The trend cannot continue much longer without yields on bonds turning negative – meaning investors would pay for the privilege of lending to the government.
Ian Harnett of Absolute Strategy Research in London says money could start flowing back into equities once bond yields start to revert to historically normal levels, which will mean investors sell bonds and look for a new use for their cash.  But like others, he is reluctant to say the moment has arrived, as central banks and governments are still heavily pushing investors towards bonds.  "We are still in politicized markets. And that means you're gambling, because you don't know what politicians will do next."

Meanwhile, fund managers emphasize the increasing regulatory incentives to buy bonds, a phenomenon now known as "financial repression".  "Governments are trying to deleverage by stealth and encourage banks to own as much as they can of sovereign debt," says Mr. Utermann of Allianz: "With all the regulators are throwing at them, it has become more difficult to own risk assets."

Indeed, in the decades around the bursting of the technology bubble in 2000 that first punctured confidence in equities, governments have changed tax treatments on dividends; insisted companies and banks value assets as they are traded in the markets rather than on the basis of models and assumptions; altered accounting rules on how companies value pension promises to employees; and prodded pension managers to buy bonds by forcing them to match their assets to future liabilities.

These developments have "generated a regulatory regime for pension funds and insurers that is heavily pro-cyclical", says Keith Skeoch, chief executive of Standard Life Investments, one of the UK's biggest fund managers, which controls assets of about $250 billion. "Even as bond yields fall and prices rise, and equity prices fall," he says, "the regime is forcing institutions to hold risk-free assets".

The pressure to cut equity exposures is being felt across the savings industry.  Alasdair MacDonald of Towers Watson, one of the world's biggest actuarial firms, points out that the UK's savings and retirement funds that use the traditional "with-profits" model, where a bonus for savers is declared each year, are also withdrawing from equities.  This is despite the fact they are more risk-tolerant than insurance funds, are not being forced to "de-risk" and have less onerous solvency requirements.

And if equities were to bounce and bonds fall, such funds would be more likely to sell more equities rather than stock up.  Mr. MacDonald forecasts that equity holdings could halve again in the next two decades.

Meanwhile, company and occupational pension funds are being pushed out of equities.  Traditional defined-benefit or "final salary" pension funds in the developed world are relinquishing equities under pressure from actuaries as schemes near maturity.  The steady shift to defined-contribution pensions, which do not guarantee a set income and where individual savers must make investment decisions, has also led to lower equity weightings, as private investors tend to be more conservative.
 Retail investors' conservatism has also driven money out of collective investment funds.  In the U.S., inflows to bond funds have exceeded equity inflows every year since 2007, with outright net redemptions from equity funds in each of the past five years.

For Mr. MacDonald, the issue is whether there are sufficient bonds to satisfy all the demand that has been created for them.  "Does it all add up? There are not enough bonds in the world," he says.  If so, exceptionally low bond yields could continue. That would delay the hoped-for big switch back into equities.

"Overall, the past 10 years have been horrid. The question is why equity markets have not been down more," says Mr. Utermann.

The answer is that reduced demand for equity has been answered by reduced supply. Companies are buying back their own stock, which often makes sense if valuations are too cheap, while investors force them into paying higher dividends.  With interest rates low, acquisitions tend to be financed by debt, not equity, leading to a fall in the overall pool of equity.

According to Rob Buckland of Citigroup, who christened this phenomenon "de-equitization" back in 2005, net equity issuance in the U.S. was negative last year, as it was in Europe between 2003 and 2007.  Across the developed world, equity issuance is far lower than in the 1990s, and has made only a feeble recovery since the credit crisis.

For Mr. Buckland, this is "the logical response to the collapse in investor appetite for equities evident in the past decade".  But it also implies that capitalism as currently conceived, where corporate managers are responsible to their owners through the stock market, is under threat.

With fund managers under pressure to buy bonds – and companies content to adapt to this rather than create the conditions where equities might look exciting again – it is easy to see why they believe the next cult of the equity is still up to a decade away.  For Mr. Utermann, there is "no natural flow into equities" for the next five to 10 years. "The rules of the game have changed".

Courtesy of John Authers and Kate Burgess, FinancialTimes.com

We have been and remain bullish on gold and gold stocks in the longer-term. However, the reasons why I believe gold and silver will perform well in the longer-term are a bit different than what many economists and pundits are expecting.

I am a contrarian by nature.  I generally try to do the opposite of the crowd in every situation I find myself, regardless of whether I am in a movie theater or trading options.  Before getting into the gold and gold miners analysis, I thought I would explain my position publicly to readers.  I do not consider myself an expert economist, but I try to read those who many consider to be experts looking for similarities in their viewpoints and expectations.

The herd mentality exists in financial markets and a similar behavior exists among economists.  Most economists in the mainstream media today tend to be Keynesians or neo-classical economists.  Both viewpoints are generally accepted as the correct interpretation of economic and monetary policies by academia.

However, the academic world can actually reduce open thought through ridicule and persecution.  In the world of academia the herd is right, until someone proves that they are wrong using logic based reasoning.

Very similar to political ideologies, economic ideologies are deeply rooted.  Paul Krugman is a great example of Keynesian economist.  Like it or not, the majority of economists believe his views are correct regardless of whether they are based on fact, history, or dare I say "common sense."

This leads me to the reason why precious metals and commodities in general may be approaching a major bottom, and have the potential for a monster rally.  The reasoning stems from the fact that across the world central bankers generally share the same views as Paul Krugman.  They believe that the modern finance system does not need gold and that fiat currency is the answer even though history argues in their face across multiple millennia.

Many economists and financial pundits believe that sovereign debt is going to bring down the economy and they may be correct.  Many believe that the debt will unleash a massive deflationary spiral that will consume fiat valuations, specifically on risk assets and debt obligations.

I do not necessarily disagree that this is a likely outcome, but what concerns me is the number of people that believe this is true.  This is the herd's idea and as I have said many times before the herd is rarely right.  This time may be different, although it rarely is.  For inquiring minds I offer a rather different potentiality.

What if the debt crisis causes a totally different outcome that very few economists envision?  What if they follow Dr. Krugman's ideas and create massive amounts of debt to stimulate the economy, while printing vast quantities of fiat money to prop up failing financial institutions?  Clearly increasing debt levels and debasing the currency do not imply a long term positive scenario.

Central banks do not have a strong track record when it comes to reducing liquidity or increasing liquidity at the appropriate times.  Thus these actions are likely to facilitate some sort of crisis in the future, whether it is a result of runaway deflation or inflation.

I believe that should a deflationary crisis caused by massive debt levels and diminishing economic strength present itself, central bankers around the world will behave exactly the same way.  They will act simultaneously, and through dovish monetary policy, central bankers will flood the world with massive sums of freshly printed fiat currency – with the intent to print away issues with a liquidity induced risk-on orgy.

Should that be their ultimate choice, risk assets will rally sharply higher initially.  Paper assets like stocks will produce huge gains in a short period of time while supposedly safe assets such as Treasuries (TLT) would likely arrive at negative interest rates across the yield curve in nominal terms.  The next phase is the scary part and why I am bullish long term of precious metals specifically.

The devaluation of fiat currencies simultaneously around the world will result in a monster economic crash when the masses realize that the majority of the major worldwide currencies are becoming worth less and less.  The resulting crash would be caused by the opposite force of runaway inflation while the herd mentality that anticipates a deflationary debt spiral espoused by most experts and pundits would be proven materially false. 

Under those circumstances, precious metals will be the true safe haven.  Gold and silver will prove to be a true store of wealth that they have been for cent uries.  So many so-called experts fail to recognize that gold and silver are currencies. Yes they have industrial uses, but gold and silver represent the last unequivocal bastion of wealth preservation against the constant debasement procured by central bankers and their minions.

Under the scenario whereby central bankers flood financial markets with cheap, freshly printed fiat currency one would expect other essential commodities such as oil (USO) to also perform well.  Furthermore agricultural based commodities would also flourish under those economic conditions.  Investors would be in much better fiscal condition owning things that they could hold in their hands versus stocks or bonds.

I posit this potentiality not to say that this is exactly what is going to happen, but to challenge readers to open their minds.  The crowd is usually wrong.  The central bankers and most economists generally share the same viewpoints and their behavior is literally a giant group-think.

Is it possible that they are a herd which ultimately will be proven wrong?  Will the herd mentality of economists and central bankers cause a massive currency crisis as they attempt to stem the tide of a deflationary debt crisis?

The two possible outcomes go hand in hand.  I do not know what is going to happen, but neither outcome in the longer-term is especially optimistic.  Should either scenario come to pass, the human condition will likely be threatened by a decrease in the standard of living across multiple developed countries and ultimately possibly the threat of revolution and military action on a scale not seen in several decades could eventuate.

Clearly I have simplified the issues at hand presently for ease of reading, but the ultimate endgame will likely be one or a combination of both a debt crisis and a currency crisis.  They will likely occur in close proximity to one other in terms of time, but the precise outcome will likely be different than what is commonly expected.

Regardless of which scenario occurs, precious metals will eventually be sought for their protection against the constant devaluation of fiat currencies by central banks around the world.  For this reason, I remain a long term precious metals bull. With that said, why don't we take a look at the recent price action in gold, silver, and gold mining stocks shown below.  

A lot of analysts have stated that gold (GLD) has bottomed. I am not totally convinced, however I do believe that gold is in a bottoming process.  For me to get completely in my gold bull suit I would need to see price action exceed the key resistance trend line shown below.

Gold Futures Contract Daily Chart

As can be seen above, until we see price push through resistance I will remain cautious.  I would also point out that the last two times gold found bottoms near current prices, the bottom forming process took several weeks to complete.

I do not expect for gold to form a V shaped reversal.  In fact, lower prices in the short term would help drive the bullish case for the longer term.  Bottoms take weeks to form and can be very dangerous trading environments where active traders get chopped around.

Silver (SLV) is very similar to gold in that it appears to have formed the beginning of a possible bottom.  Bottoms are generally not formed in one day.  During the recent selloff, silver showed relative strength against gold.  It is important to acknowledge that silver has yet to test the key lows that should offer support.

Because of this divergence in these two precious metals, I continue to believe that gold may see more downside again before a much stronger rally begins to take hold.

Similar to gold, the descending trendline offers a great resistance level, where traders can flip from being short-term bearish to longer-term bullish if the resistance line is penetrated.  If we see silver carve out multiple daily closes above the resistance trend line paired with strong volume, I would anticipate that a bottom has formed and silver prices will have an upward bias.  The daily chart of silver is shown below.

Silver Futures Contract Daily Chart

As expected, the gold miners (GDX) have shown relative strength recently.  The miners were just absolutely massacred during the recent selloff in equities and precious metals.  However gold miners, similar to precious metals, have a major descending trend line which they have already tested this week.  If the gold miners can push through resistance a large scale rally could play out.  The daily chart of gold miners is shown below.

Gold Miners (GDX) Daily Chart

In addition, if readers look at a long term GDX price range that dates back to the 2009 lows, the recent pullback is almost precisely a 0.50% Fibonacci Retracement.  Similar to gold and silver, I would expect to see the gold miners pull back a bit here before pushing through major resistance.  

We may be setting up for a possible major bottom in precious metals and gold miners in the near future.  Only time will tell.

In closing, remember to keep an open mind with regards to the future.  The more often you hear the same message coming from financial pundits and experts, the more cynical you should become.  Both potential scenarios will likely not end well.

The question is whether the reason for the crash is deflation, inflation, or a combination of both scenarios.  Regardless of the outcome, the long-term future for precious metals remains quite bright in our view.

Courtesy of JW Jones & Chris Vermeulen, www.TradersVideoPlaybook.com

Do the Bulls still stand a chance to make another run?

Those are still the questions after we saw the SPX 1340, 1322 pivots crashed right through.  We ended last week with the S&P 500 (SPX) (SPY) falling from 1353 to about 1292 and the US Dollar (UUP) having rallied 13 of the past 15 days to the upside.  We also have The McClellan Oscillator at extreme oversold levels as in the November 2011 lows and close to the August 2011 lows.  The Sentiment gauges are running at only 24% Bulls as opposed to the historic 39% averages, and the Percentage of NYSE listed stocks trading above the 50 day moving average plummeted to 12%.  That is about as low as it has been during this bull market, other than last August when we hit 5%.

So that means that the sentiment/human behavioral ingredients are actually in place for a marked rally to the upside.  What we examine this week is whether that can still happen and what type of Elliott Wave pattern would we need to see to validate it.
 We can still make a case that this correction of 130 points from 1422 to 1292 (about 9.1% similar to many Bull market corrections since 2009 lows) is a wave 4 correction of waves 1-3.  Wave 1-3 rallied in total from 1074-1422 and a 38% retracement of that entire cycle would put us right around 1291/92 pivots.

So below we have the chart that the Bulls would hang onto as the possibility for a dramatic recovery to new highs past 1422 and onward to 1454 or so.  This needs to begin very shortly though, and much below 1285 we can wipe this idea off the slate in my opinion.

SPX Weekly Chart

This is probably not a good time to place a big bet just yet in either direction;  we are at an inflection point.

Courtesy of David Banister, TheMarketTrendForecast.com

Apple (AAPL) is one of the most actively traded stocks currently. For the trader who trades only stock, there are two major difficulties in executing trades in this stock: 

1. It is breathtakingly expensive.

2. It exhibits periods of neck snapping volatility exposing the trader to substantial losses if he gauges the direction wrong and does not act quickly.

For the investor who is willing to learn an option based approach, both these problems can be easily dealt with by using structured option trades to control risk crisply and make efficient use of capital.   

Because this underlying is such an actively traded stock, the options are extremely liquid and trade with very tight bid / ask spreads.  These are the two essential characteristics for selecting an appropriate vehicle in which to trade options.

I thought it would be interesting to look at a high probability trade that does not depend on accurately predicting the price direction of AAPL.   Let us first consider the price chart below:

AAPL Daily

The horizontal orange lines represent the price boundaries of the option trade we will consider.  The lines have been placed to coincide with areas of recent support and resistance.  The lines are obviously placed somewhat subjectively and can be modified to reflect the nuances of the reader's technical analysis biases. 

The point of the thought process I want to lay out here is not to debate the exact placement of these lines, but to demonstrate how a high probability trade can be constructed using whatever technical methods you wish to use to determine areas of support and resistance.

The next point we need to discuss is the concept of a "vertical credit spread".  This is, as implied by the name, an options spread in which a credit is received into the trader's account.  The spread is constructed in either calls or puts, and represents a bearish or bullish trade respectively. 

An example of a bullish trade, a vertical put credit spread, would be to sell the AAPL 490 strike put in June and buy the 485 strike.  The result of entering this trade would currently be a credit of $60 for each contract and the full value of this contract would be realized if AAPL closed at 490 or above at June expiration.  No additional profit is possible for this trade.  The position has a maximum potential loss of $440 because we own the long put.

A similar bearish trade can be established using a vertical call spread.  In this example, the June 595 call could be sold and the June 600 call bought for a net credit of $45 per contract.  This is the absolute maximum profit that can be made from the position.  The full value of the position would be realized if AAPL closed at 595 or below at June expiration.  The position has a maximum defined risk of $455 because we own the long call.

The astute reader will now undoubtedly ask the question:  Why would anyone take a trade where he could make $45 and lose $455?   The answer lies in the probability of realizing the profit.  At current prices, each of these credit spreads has an 88% probability of achieving its maximum profitability.

The position I would like to call to the reader's attention is to do both trades simultaneously.  The combination of a bearish call spread and a bullish put spread is termed an "iron condor".  The characteristic Profit & Loss (P&L) curve is presented below:

Iron Condor Theoretical P&L Chart

The illustrated trade has a return of 31% on margin requirements and a probability of being profitable of 72%.  Because it is a credit spread, the trade has no direct cost, but does have margin encumbrance requirements to secure the ability to enter the trade. 

An important point is that only one side of the trade requires margin since it is clearly not possible to lose on both sides of the position.  It is critical to confirm that your broker only requires margin on one side; a few "option unfriendly" brokers require margin on both sides.

If you find your broker is one of these dinosaurs- run, don't walk away since that illogical requirement halves the potential return on the position. 

This is but one example of using options to construct a high probability trade that is profitable over a wide range of price and uses capital efficiently.  In addition, risk is crisply defined and accounts cannot be "blown up" by Black Swan events. 

The use of options opens a host of potential profit opportunities beyond the simple "going long" or "going short" available to the stock trader.  There are many of these advanced option trading opportunities.

[BigTrends Editor's Note:  We are currently doing internal development and testing on a recommendation service that will give income generating, range-based Iron Condor and other advanced option trades on a weekly basis.  Stay tuned for further details later this year!]

Courtesy Jw Jones, www.OptionsTradingSignals.com

There are two likely possibilities here….. either things are really, really bad, or the nosedive was a much-needed capitulation that will finally-jump-start the bigger bullish trend again.  Don't rule the latter possibility out.  The week in September of last year that was an even bigger loser than last week?  That was also the beginning of the recovery effort (even if it took two more weeks to get it going).

We're going to do the usual poking and prodding below, right after we paint the bigger economic picture.

Economic Calendar

What a week we had for economic data!  In order of appearance…

Retail sales weren't good, and downright bad when you take auto sales out of the picture.  Though the numbers on the table below say both regular retail sales and retail sales with automobiles were up 0.1% in April, that's a year over year comparison.  Between March and April, general merchandise store sales (the biggest segment of the retail world) were actually down 0.1% from March.  It was second month-to-month decline in general merchandise sales in three months.  This is a growing struggle, and a red flag.

Inflation?  Doesn't exist.  The current inflation rate is now 2.3%.  That part of the reason why Gold (GLD) has been getting crushed.

Housing starts and building permits were ok.  Starts rose from 699K to 717K in April, and though permits-issued fell from 769K to 715K, both figures are modestly getting stronger.  [It takes more than a month's worth of data to say for sure, however.]

Industrial productivity as well as capacity utilization both grew in April.  This is huge!  Though it doesn't mean anything in terms of the market's short-term swings (like the current pullback), this speaks volumes in favor of the bigger (long-term) bullish trend.

The correlation between both productivity and capacity usage with the broad market is uncanny – as long as they are rising, so too is the market.  If they're falling, so too is the market.  Though they are not leading indicators, they are stunningly accurate coincidental indicators (which we've discussed before).

Capacity Utilization and Industrial Production, vs. S&P 500

Last but not least, new and ongoing unemployment claims rolled in just about even, continuing – basically – a sideways trend for both.  It's not a red flag yet, but the lack of progress on the employment front could have a slow, grinding ill-effect on the economic condition.

Economic Calendar

The coming week is one of the lightest weeks of the year in terms of economic data, though it will be an important one for real estate.  Existing home sales for April are expected to grow to 4.65 million, new homes sales should be up to 340K (both are annualized figures), and we'll get an updated glimpse of how home prices are moving… all by Wednesday.

Stock Markets

Ugly.  There's no other way to describe last week.  Five straight losing days, with the S&P 500 losing 4.3% of its value in the process.  Yet, there's almost something relieving about the move… as if traders knew we were due, and we finally took the lumps we knew we had to take sooner or later.

It's an idea that certainly won't jive with everything you're hearing from the media's pundits.  It's an idea that may even ruffle some feathers.  Yet, the reality is, trends don't last forever – the media and most investors were assuming the worst in September based on how bad things had been since August, and missed much of what was ultimately a 24.5% rally between then and April of this year.  The point is, it's often darkest right before dawn.

That's not to say Friday's SPX low of 1291.98 was exactly 'the' bottom.  It is to say, however, that there's a huge risk of fear driving trading decisions right now.  Don't let fear blind you to the possibility that a recovery may be materializing.

As for the details, let's just put the bullish and bearish cases on the table so we know exactly what we're dealing with.

The bearish case:

* The 200-day moving average line (green) did NOT act as a floor; the SPX blew right under it on Thursday and Friday.

* The CBOE Volatility Index (VIX) (VXX) is in a new uptrend.

* The 20-day moving average line (blue) has crossed under the 50-day average (purple), and will fall under the 100-day moving average (gray) this week.

The bullish case:

* Friday's low of 1291.98 almost perfectly brushed the 38.2% Fibonacci retracement level (based on the rally from September's low to April's high).

* While last week's selling was nasty, volume was actually pretty light.

* The short-term Arms Index – or TRIN – readings (not shown) suggest the advancers/decliners and up/down volume relationships have already reached their peak bearishness, meaning the short-term selling effort is running on fumes and that the market is ripe for a bullish reversal. [Note that the long-term TRIN readings say there's still more downside to go... or at least some bearish pressure that needs to be burned off first.]

The two sides' arguments can be simplified by clarifying the two schools of thought here – either the momentum says there's even more selling/declines ahead, or the market's oversold condition says a rebound is nigh. 

Between the two camps, we're more inclined to join the near-term bulls.  The market (DIA) (QQQ) (IWM) is unusually oversold right now, but it's not a very well-backed downtrend.

On the other hand, with hysteria being cranked up to maximum levels, traders may well be nudged into more selling early this week… even if it's the wrong decision.  Besides, we're not quite all the way to all the technical floors [see the weekly chart below] that would best spur a bounce.  For that reason, it may be wise to not try and catch a falling knife — let's wait for some confirmed bullishness before taking that trading plunge.

SPX & VIX - Daily

Just for a little added perspective, here's the weekly chart of the S&P 500, which as was noted above actually bolsters the bullish argument.

On this weekly version we can see how the index is at or near a major Fibonacci retracement line.  It's also on this chart we can see the S&P 500 is just a hair away from a key Bollinger band (at 1280) that has played a support role before.  Between it, the 200-day average line at 1282, and the Fibonacci line at 1288, there's a pretty potent 'zone' of support for the market here.  It may just take a few days for that support to get traction.

SPX & VIX - Weekly

Trade Well,

Price Headley

In our 2012 Kentucky Derby article, we did pretty well in our handicapping analysis.  I had Bodemeister & I'll Have Another both in my Top 3 and they finished 2nd and 1st respectively.  I also had Dullahan as one of 2 wildcards and he finished 3rd.  My top pick Creative Cause finished 5th, just out of the money spots.

Also, Moby Waller in the same article had Dullahan and I'll Have Another in his Top 4, as well as longshot Went The Day Well in his wildcards, who finished 4th (fourth place finish is part of Superfecta betting).

For the Preakness, I view it as a likely 3 horse race, not a lot of upsets here.  I have

I'll Have Another (#9, 5-2)
on top over
Bodemeister (#7, 8-5)
with
Creative Cause (#6, 6-1) as the wildcard to finish anywhere in top 3.

My hypothetical wagers, for entertainment purposes only of course:

$20 Win – I'll Have Another (#9)
$20 Win – Creative Cause (#6)
$10 Exacta Box – I'll Have Another, Bodemeister, Creative Cause (#9, #7, #6)

Have a great weekend!

Price Headley

The IPO price will likely be in the $34 to $38 range (which has just been raised due to demand apparently), but when it starts publicly trading, who knows where it will open (likely higher).  And they have raised the number of shares available in the IPO by 25%, in response to strong demand.  Both the raising of the offering price and the increase of shares is a concern in our view.

If you want to try to buy it for the IPO price and flip for a quick profit, good luck!  The major brokers like Schwab, Fidelity and Ameritrade should have some shares for their clients … BUT, it's likely restricted to the wealthiest, most active investors:  "Fidelity, which will be getting an undetermined number of shares from underwriter Deutsche Bank, says customers should have $500,000 in their accounts and have made 36 trades in the past year to be eligible. Ameritrade's account requirements are at least $250,000 and 30 trades in three months. Schwab's are a minimum $100,000 or 36 trades in the past year, but the firm says it also has other requirements."

BigTrends.com founder Price Headley points out that many Tech IPOs and Social Media stocks have not acted well recently, such as LinkedIn (LNKD) which has just recovered to its IPO levels recently.  Meanwhile Groupon (GRPN) and Zynga (ZNGA) have been outright dogs.  He also warns that while FB is the clear leader in this space, this may be one of the most overhyped names ever and is similar to some names in the 1990s when the focus was on Eyeballs over Earnings.  Bottom line from Price is to wait and watch the reaction after the first week of trading is in place.

But something else to consider is that the media seems to be far from overly-bullish or overly-hyping this IPO.  In fact, many large media companies seem to be outright negative or warning investors about the FB IPO.  I've noticed several of these articles recently and Googled others ("Googling", by the way reminds me that when a company name becomes a verb is often a good sign that it's permeated society in a meaningful way — such as "friend me" or "are you on facebook?") — see the long list of articles following. 

From a contrarian perspective, it would be encouraging for a Facebook bull to see such a large amount of negative sentiment from so many outlets.  In addition, I don't quite feel the mass need to get in this IPO like we saw in the Internet Bubble days … in one interaction with a former CBOE trader friend of mine said he thinks FB will be the next Netscape (NSCP) — "huge opening day, top in opening month, then slow motion train wreck.".  Another anecdotal but my baby boomer mother and others haven't asked me how they can get in on it, for example.  This gives somewhat of a "contrarian buy" feel to it.

Negativity Abounds:

Warning: Stay Away From The Facebook IPO - Forbes

Facebook IPO: Insiders Cashing Out – WSJ.com

The Facebook IPO Frenzy Turns Depressing -Gawker

Why You Shouldn't Care About Facebook's IPO | Inc.com

Beware the Facebook IPO - CBS News

Three Headwinds for Facebook's IPO - Harvard Biz School

Facebook IPO Overvalued at $96 Billion in Global Poll – Businessweek

Facebook IPO's elephant in the room — mobile – Computerworld

Ahead of Facebook IPO, poll finds user distrust – USATODAY.com

Facebook IPO Said to Get Weaker-Than-Forecast Demand – Bloomberg

Want in on the Facebook IPO? Wait awhile and see if you still 'like - NYDailyNews

Facebook Insider Selling: Sell Signal? – CNBC

Facebook Is Only Worth $18 - TheStreet

Facebook's IPO: Do not buy | – CNET News

Overall, this is a tricky one — I find Facebook and Twitter both to be very useful and addictive social network services, more for pleasure and information sharing than for business uses.  900 MILLION users and growing is certainly nothing to sneeze at — and the company is constantly working at finding new ways to integrate itself into our lives and modern life in general.  Many companies are apparently finding that Facebook pages give them much better bang for the buck than their expensive web sites do.

There may be vast new revenue streams available in the future that aren't even perceived now that will increase the company's valuation/profits/revenues — but Facebook (FB) is certainly not being offered at a bargain basement cheap price.  And many have seen the way the likes of once dominant leaders like MySpace disappeared and are skeptical.  Also there are concerns of smart phone app usage and other future technologies that could hurt the company's dominant market share.

But on the other hand, who wouldn't love to have to bought Google on its opening day, or Apple (AAPL) before it released the first iPods?  I would say be very careful buying in the first few days or so, but if you're a long-term believer that Zuckerberg & Co will continue to "change the world", you may find FB to be a good long-term buy if you wait a bit. 

So it's definitely an eventful time for option traders right now, and a worrisome time for some perma-bulls.  Let's take a look at some key things we're seeing on Fibonacci Retracements, the VIX, and a note about UUP that can help put things into perspective.

First the SPX with long-term Fibonacci Retracement — this is a weekly chart we've been watching since the hugely volatile move from the 2007 market high to the 2009 panic low.  Since then, one form of thought is that we've basically been retracing some of the losses.

If you take a look at the first chart below, you can see that we've broken back below the 1361 Fibonacci 76.4% Retracement level.  This may now act as resistance on rallies — note how this was a significant level several times in 2011 (and even in 2008).

SPX Weekly Chart

Next we'll zoom into an SPX Daily Chart, focusing on the steady uptrend that was in place from December 2011 until April 2012.  This uptrend has broken down and a Fibonacci Retracement of the fairly clear low to high can show some key levels to watch.

Note on the chart below that we held above previously and now have broken the 23.6% retracement level of 1360 (very similar to the 1361 level in the first chart, which gives this technical area more importance in my view).  This means that 23.6% of the roughly 264 SPX points we gained from Dec to Apr was given up. 

Next is a retracement level at 1321, which we've already begun to approach.  Beyond that lies the most important of the retracement levels (and one which is seen time and again in history), the 50% retracement of the gains, which is at SPX 1290.  So keep that in mind as a downside target should the recent weakness continue.

SPX Daily Chart

Next we come to the VIX.  This measure of option implied volatility has also long been known as a fear indicator.  However, in my view it's become more of a "smart money" indicator in recent years, while previous to that it was often contrarian.  So when the VIX rises, it's a warning sign quite often.

Note below that the VIX gapped up and had follow through, the gap has not been filled in yet.  This is unlike the quick gap above the key 20 level that we had in March that was quickly reversed lower.  The most similar range to where we are now is the 20 to 24 range on the VIX that occurred in late-2011/early-2012.  Bottom line is the VIX hanging above the 20 area is a poor backdrop for stock gains, in my view.

VIX Daily Chart

Next a quick note about the Dollar ETF (UUP) — this isn't our favorite currency ETF to trade in our ETFTRADR program, we prefer focused currency ones like Euro (FXE) and Yen (FXY).  But the UUP daily chart is noteworthy because we had a 100.00 reading on Percent R on last Friday May 11th and also again on Tuesday May 15th.  Such a strong reading is unusual to have once, much less twice in a week. 

The performance of UUP after such a 1 day 100.00 Percent R reading is mixed (as opposed to previous research we did that showed gains for the SPYders following a 100.00 reading over about 3 weeks).  In a quick optimized holding period test of such an extreme UUP Percent R reading, it shows that in 7 of 9 occurrences (77%) since inception in 2007, UUP was higher 23 trading days later.  Shorter-term, it's more of a 50/50 type thing but does often precede volatile moves, so expect volatility concerning the Euro v Dollar to continue for the near term. 

UUP Daily Chart


We've previously discussed how 2012 has started to look more and more similar to 2011 in terms of broad market performance.  Keep this in mind, as well as the key levels and concepts we've noted above to navigate you through what may a volatile next few weeks/months.

Should both Gold & Silver Bulls & Bears take a long winter sleep?
Maybe…

When we look at Silver (SLV) prices from 1985 to today (green line in the chart below) and compare the evolution to the one from 1967 to 1974 (black line in the chart below), we can see a very similar pattern.  If price would continue to track this pattern, it could mean that silver has just entered a 20 years lasting winter sleep.  In the meantime, it would trade between $20 and $50, before taking off again in 2032… From then on, it could gain over 2,000% to reach nearly $1,000.

Silver Chart

A similar pattern can be observed in the price of Gold (GLD), although the time scale is slightly different.

Gold would drop towards $1,000 in 2015, before taking off to about $12,000 by 2025.

Gold Chart

Why the hell would Gold drop towards $1,000 per ounce by 2015, while all the fundamentals are pointing to a "screaming buy"?

Well, if Martin Armstrong is correct and we would get a Sovereign Debt "Big Bang" sometime late 2015, then that could be the reason for Gold's drop (please have a look at the following slide which he presented in 1998 & click here for the complete presentation).

Sure, Debt Crises SHOULD be good for Gold, but even though the crisis in Europe is escalating, Gold is not acting as a "safe haven".  If the Debt crisis continues until 2015 (to reach a climax late 2015) and Gold continues to act the way it does right now, we could see Gold trade as low as $1,000 per ounce again.

Many of Martin Armstrong's predictions in 1998 came true, so the chances are decent that the last one will too.

[BigTrends Editor's Note:  Martin Armstrong is a controversial and eccentric figure, please do your own research on Armstrong and his writings.  Fascinating & prescient slide though, assuming it really is from 1998, which we've been trying to verify 100%.]

Martin Armstrong Slide

Legendary trader Jim Rogers was recently quoted saying: "It's extremely unusual for any asset in history to move higher for 11 straight years.  That's why I expect the recent correction in gold to continue."  He's not selling any of his gold.  And he's not shorting it, either.

It would take a "gigantic new gold supply" or all the world's central banks deciding to dump gold before he'd short.  That's because Roger's believes the big gold bull market has "years to go."  Still, gold could drop as far as $1,100 an ounce, he said. "I would buy gold if prices fall to $1,100 or $1,200 an ounce.  A pullback of this magnitude is normal." 

Back in 2008 when Gold was trading around $900 (after having traded above $1,000 for the first time in history), he said in an interview that he would buy Gold if it were to drop towards $750.  Eventually, it bottomed 10% lower around $680, before nearly tripling over the next 3 years.

Assume Rogers is right, and Gold drops towards $1,100 (the point where he would add to his positions), and history repeats (meaning Gold bottoms about 10% lower), that would put Gold at $1,000 an ounce, which is also the price target of the second chart above.

Now why should Gold & Silver take a break?

First of all, as Mr. Rogers says: Gold has gone up for 11-12 years in a row, which is exceptional.  One down-year means nothing as long as the Bull market is intact.

Another reason would be the fact that Silver outperformed Gold by a factor of nearly 2x over a 4 years rolling basis in April 2011:

Silver & Gold Chart

Now let's have a look at the markets. I have written extensively about how the HUI Index of gold stocks (GDX) has been under performing Gold, just like in 2008.  The pattern is still holding so far, which does not look good at all:

HUI/GLD Ratio Chart

However, sentiment in Gold Stocks is VERY depressed at the moment, as only 10% of the Gold stocks have a BUY signal on the Point & Figure chart, as shown in the following chart ($BPGDM).  On top of that, the HUI index has now hit the 50% Fibonacci Retracement level from the bottom in 2008 to the top in 2011:

Gold Sentiment Chart

Gold stocks are trading at historical low valuations compared to Gold, so this combined with the extremely depressed sentiment could mean that Gold Stocks are at or near a bottom, although the similarities with the 2008 crash are still striking and therefore worrisome.

I haven't bought Gold stocks since I sold them in 2011, right before Silver hit nearly $50 per ounce, but am now back in the market.

Courtesy of Willem Weytjens, www.profitimes.com

We'll look at the near-term good and bad below, right after we start to paint the bigger picture with the broad strokes of economic data.

Economic Calendar

Last week was light in terms of the number of economic data nuggets we had to sift through, though a handful of important numbers were put on the table.

A couple of them were, of course, in the unemployment claims arena.  Initial claims came in about even, at 367K, while continuing claims rolled in at 3.229 million, slightly down from the previous week's 3.29 million.  Both have been rather stagnant of late.

We also saw a surprise drop in producer inflation (the input costs incurred by factories and plants in making goods ultimately passed on to consumers).  Those prices dropped by 0.2% overall, but on a core basis (excluding food and energy) were still only up 0.2% for April. It certainly pokes the 'rampant inflation' theory from a year ago in the eye, and gives the Fed some room to maneuver.  This Tuesday's consumer inflation snapshot will round out the picture, though the pros don't think the change will be much different from that perspective than it was for producers.

And what about the wild surge in consumer credit levels?  Forecasters were only expecting an $11.0 billion increase for March, but we saw a $21.4 billion increase instead. It's more of the same story we've already been seeing…. the bulk of it was student loans.  Students are trying to secure loan money now before a likely increase in student loan rates on July 1st. 

Economic Calendar

As for the coming week, the fireworks don't begin until Tuesday, but they begin with a bang.  We'll hear about April's retail sales as well as last month's consumer inflation rate that morning.  Retail spending should be up a tepid 0.2%, with or without autos.  Consumer inflation should be non-existent overall, and only up 0.2% on a core (excluding food and energy) basis.  Again, inflation is not anywhere close to being in a position to derail the economy here – deflation may be the bigger worry at this point.

Wednesday's housing starts and building permits should be a meaningful update on the construction front; both should hold steady.  That won't be the important data from Wednesday though.  No, that honor belongs to capacity utilization and industrial production… two data sets with an amazingly high correlation with the market's long-term direction [neither means much for the short-term ebb and flow though].  Each are expected to grow modestly, though that's enough to keep the bull market alive.

We'll hear about last week's unemployment claims on Thursday, though economists don't see much change in the lineup.

All in all there's more good than bad ready to be unveiled on the economic front.  However, given how small the improvements are, investors may still find reason to be dissatisfied.

Stock Markets

To the bulls' credit, they still haven't let the bears push them back behind the last bastion of a foothold (DIA) (QQQ) (IWM). On the other hand, it may be a lost cause.

It's quite clear the sellers have the momentum here, as indicated by last week's lower low, under the S&P 500 Index (SPX) (SPY) April low of 1357, (dashed), and the fact that the 20-day moving average (blue) has crossed under the 50-day line (purple)

That 'last bastion of a foothold' for the S&P 500 is the floor at 1346, where the lower 20-day Bollinger band (dark gray) as well as the lower 50-day Bollinger band (orange) have merged, just in time to set up a support level, and perhaps even inspire a rebound.

That's a long shot at this point though.  The bears have convincingly made their point, and after four days of dancing with those two lower Bollinger bands, the bulls have come up with absolutely nothing.  Take a look at the daily chart, but be sure to keep reading.

SPX & VIX - Daily

At the same time, the CBOE Volatility Index (VIX) (VXX) (VZZ) is now officially trending higher…which is bearish for stocks.  That upward move from the VIX actually started in mid-April, but didn't fully materialize until this week after the VIX got comfortable above its key moving average lines [which have also crossed over for the first time since the middle of last year].

The VIX is also putting pressure on its upper 20-day Bollinger band (red).  If the VIX's ceiling at 21.1 (dashed) doesn't hold it down at the same time the S&P 500's floor at 1346 doesn't hold it up, that should pretty much start the next leg of the current market downtrend.

Now, with the details of the daily chart fresh in your mind, take a look at the weekly chart for the needed perspective.

S&P 500 – Weekly

This is a message we've sent before, but it merits repeating now…. the market's due for a dip, and the chart – as well as the VIX – say that dip is unfurling now.  It's simply a pattern that's been in place since the bull market began back in early 2009.  The SPX is falling now, and the VIX is rising now; even just a quick visual glance can tell you that.  There's still a slight possibility the bulls can step in here and stave off a pullback.  That's the less likely outcome here, now, however.

If things do get really nasty from here, it may take a move back to the 1270-ish area before the bleeding is stopped.

Index Comparison

We mentioned above that all the major indices were hanging by a thread. Here's a closer look at that reality.

The 'thread' is the 100-day simple moving average lines, which are plotted in gray for all the indices on the chart below.  In all three cases the sellers tested that line as a support level.  Though the Dow (DIA) was the only index to close under it, it's clear the NASDAQ (QQQ) and the S&P 500 are both right on the verge.  More than that though, the shape of all three index charts almost says the market's trying to make it happen – it just needs one more good nudge.

The most likely floors for another bearish leg here would be the 200-day lines, which are plotted in green.

Index Charts – Dow, S&P 500, NASDAQ Composite

Trade Well,

Price Headley

We previously did some research after the first 6 weeks of this year, that the pattern was strong for the markets.  Based on 40 years of data, the S&P 500 Index (SPX) (SPY) pattern for the beginning of this year was very likely to end up with a nice gain for the whole year.  However, there were two exceptions (where the market started strongly, but ended the year lower (or basically flat):  1994 and 2011.

2011 is the one we're going to focus on now — to recap in 2011 we saw a steady market rally in the beginning of the year that was a followthrough from the previous December, then entered into a sideways trading range that lasted several months, before a sharp selloff in August took away all the year's gains.  Does the first part of that sound familiar?

Well, take a look at the simple S&P 500 ETF (SPY) weekly chart that encompasses both of these patterns:

SPY Weekly Chart – Late 2010 to Present


You can see in the above chart that there is a similarity to what's been developing since late-2011 to the previous year's market pattern.  Note the Weekly Percent R indicator at the bottom which has been nearly a mirror image thus far.

Does this mean we're in for an exact duplicate of 2011's Summer & Fall market performance?  No.  Many investors & traders remember all too well what happened last year, so this being such a known pattern actually makes it less likely to reproduce itself in my analysis.

But certainly option traders and technical analysts should be prepared for how to profit if we do have several more months of a trading range and/or market downside – we don't have to look far back in history to see a year where that occurred. 

The Spanish 10-year yield closed north of 6% amid growing concerns about Euroland.  This prompted me to take another look at Spain's benchmark index, the IBEX 35 (EWP) and the S&P 500 Index (SPX) (SPY).  The IBEX index closed the day with a loss of 2.77%, setting a new low, 57.28% off its 2007 high – fractionally below the -57.25% trough on March 9, 2009.

Here is an update of the overlay:

Interestingly enough, both set a closing low on the same day, March 9th 2009, and the percent of decline was nearly identical.  Likewise their recoveries over the next 18 months were quite similar, although the IBEX was the more volatile of the two.

But in the late summer of 2010, the two indexes parted company.  The divergence dates from approximately the date of Chairman Bernanke's speech at the Fed's 2010 annual symposium in Jackson Hole, Wyoming (August 27, 2010).  Bernanke strongly hinted at the forthcoming Federal Reserve intervention that was subsequently initiated in November of 2010, namely, the second round of quantitative easing, aka QE2. 

The US markets responded with a sustained rally that ultimately topped out in April of 2011.  The selloff that followed (a near cyclical bear decline of 19.39%) reversed shortly after the announcement of Operation Twist on September 21st.  For more on the Fed intervention, see the chart below.

 
Alas, the Spanish market has not enjoyed comparable government intervention.

Courtesy of Doug Short. http://www.advisorperspectives.com/

June 17, 2009:  Research In Motion (RIMM), the maker of BlackBerry smartphones, is due to report quarterly earnings Thursday, June 18th, after the market close.  An examination of RIMM options ahead of this earnings report is a useful case study of pre-earnings options pricing. 

RIMM options are expensive right now … very expensive.  The June At-The-Money options are priced at about 150% implied volatility, even though they cease trading at the close on Friday, June 19th. 

Why?  Because the company reports earnings Thursday evening, and the market (specifically option traders and market makers) is anticipating a big move.

You can see on the following volatility graph that RIMM options implied volatility (blue line) are trading way above its current statistical volatility (brown line).  As of the June 16th closing data, Implied Vol. was around 65% on average versus Stock Vol. of around 40%. 

So the time premium on RIMM options is very expensive right now, one might call it "juicy".  But are these juicy premiums an "automatic sell" ahead of earnings, banking on a volatility implosion after earnings? …not necessarily.

RIMM has a history in the recent past of volatile reactions to earnings, in both directions.  In the table below, we examined the last 6 RIMM earnings reports. 

You can see that the stock has made big moves in both the 1 and 5 trading days following earnings.  The 1 day reactions alone range from down 27.5% to up 20.8%; the lowest 1 day move was 5.9% (close to close basis).  The average move over the data surveyed was plus/minus 14.9% for the day following earnings, and 17.2% for the 5 trading days after earnings.

These RIMM option prices are from June 17th, 1 day ahead of earnings (and 2 days ahead of June options expiring).  They may be oruced very different tomorrow before the earnings are due.  But in the current pricing data, with the stock at 76.90 and down on the day, the June 75 Straddle was priced at around 8.50.

This is an astounding implied volatility of around 152%, with only 2 trading days left until expiration.  But more importantly for our purposes, this At-The-Money Straddle is pricing a move of about 11.1% on the shares.

Although this is a fairly small sample size of 6 previous earnings reports, you could say in a way that you are getting 4% underlying stock move "edge" by possibly buying the June At-The-Money RIMM Straddle at these prices.  Based on the recent data, the 150% implied vol options may be underpriced, not overpriced as one normally might think.

If RIMM moves 15% the day after earnings for example, the shares would move about 11.50 on these prices (versus paying 8.50 for the straddle).  If RIMM only moves 5%, which is the low end of the range, that equates to a move of around 3.85.  This is certainly not a "risk-free" trade, but it is an example of how extremely high option volatility and premiums cannot automatically be considered to be a "sell".

On the following RIMM Daily Chart, you can see the massive gap that occurred after the last earnings report, when the stock gapped up about 10 points (20%) on the open.

Could RIMM implied volatility "implode" after this week's earnings report, dropping sharply?  Certainly. The July and further out months may see a sharp drop in option premiums.  The June options, which expire Friday, will basically become dollar-for-dollar as expiration approaches.

There are other advanced strategies that investors/traders can consider in situations like this, such as Buying June Options/Selling July Options, Strangles, Condors, Credit/Debit Spreads, Diagonals, etc.  There is no definite guaranteed risk-free strategy when trading ahead of a news event and expiration.  But it certainly shows that option prices should be looked at from a variety of angles by the advanced option trader. 

RIMM actually moved down around 4.12 points (5.3%) from when this report was done until the Friday close.  This was basically around in line with the lowest 1-day move we had tracked, but the "jacked-up" straddle at 8.50 was in this case a good premium sell ahead of earnings.

Over the weekend I had an interesting conversation with a local trader.  We typically meet a few times a year to share our market outlooks, new trading tools and techniques, and usually finish our session off in a debate about the US market manipulation and how to trade around it.

Talking about market manipulation always opens up a can of worms and sparks some interesting theories… And while everyone has their own views and opinion on this subject I thought I would briefly share the main points I pulled from our conversation.

The recent price action in the Dollar Index (UUP) is important so I'm going to recap.

Conversation Key Thoughts:

Points supporting Lower Equity prices and a Higher Dollar:

- Dollar index looks ready for a major rally (high dollar means lower stocks)
- S&P 500 (SPX) (SPY) may have just formed a double top
- SP500 closed strongly below the 20 day moving average
- First week of May for the past two years have been intermediate market tops

Points supporting Higher Equity prices and a Lower Dollar:

- Countries around the globe are trying to keep their currency value low including the United States.
- Presidential cycle strongly favors higher stocks prices which means the dollar should not rally until Nov.

What do all these points mean? Let's take a look at the dollar charts below…

4 Hour Dollar Index Chart:

This chart time frame allows us to see all intraday price action while being able to zoom out several months for patterns along with key support and resistance levels.
 As you can see over the past few months the dollar has been consolidating sideways.  Within this consolidation it has formed two bullish falling wedges with the most recent one breakout last week right on queue.

Using this 24 hour futures dollar index chart we can see where things are trading through the weekend.  On Friday the dollar index closed around the 79.50 level.  As you can see the dollar has surged Sunday night by more than half a penny breaking through its down trend line.

The next few weeks will continue to be exciting ones as strong moves in the dollar will create wild movements in stocks and commodities.

Long Term Weekly Dollar Index Chart:

If you zoom WAY OUT using the weekly chart this shows you the two major areas where the dollar index is likely to reach come November.  Also with these levels are my SP500 price points, which are simply numbers I pulled from the charts using basic analysis.  I say this because I'm not into long term forecasting but rather shorter term price movements.  A lot can change between now and then.

So, if the dollar index rallies to the 86 – 88 level then I would expect the SP500 to be trading back down at the 1000 level.  If this takes place, the Fed will likely issue QE3 to jam the dollar back down and boost equities.

The flip side of the coin is that the dollar rolls over here and gets pulled down.  This will boost stock prices in favor for the president's election.  After that the dollar would likely rally which in turn would put a major top in the stock market, kick starting a bear market.

The big question…

Do you short the market in anticipation of rising dollar and falling stock prices?  OR do you buck the trend and stick with the theory of a lower dollar value and presidential cycle?

The charts above clearly show how we are entering a major tipping point for the market and the next couple months are likely going to provide some big price swings for stocks, commodities and currencies.

Courtesy of Chris Vermeulen, www.TheGoldAndOilGuy.com

Economic Calendar

There was just too much stuff in the economic lineup last week to touch on all of it, so we're just going to hit the highlights, and make the key points… starting with the obvious biggie – the employment situation.

The good news is, the unemployment rate dropped to 8.1%.  Almost just as good, the number of people on extended and emergency benefits also dropped, even if just slightly.  For the weekly data, both continuing claims as well as new claims fell, likely renewing well-established downtrends for each.

Yet, all that moderately good news wasn't enough to trump the one piece of bad news… that only 115K nonfarm payrolls were added in April, and only 130K nonfarm private payrolls (meaning the government shed 15K workers).  Neither came close to expectations, and seeing as how this is the market's biggest vulnerability – low employment – the market voted with its dollars, selling stocks in protest of tepid job creation.

Unemployment Snapshot, as of April 2012

Everything else was a mixed bag. Income was up 0.4%, beating the expected 0.2% rise for March, but spending – at a 0.3% increase – fell short of the forecasted 0.5% improvement.  Factory orders were down by 1.5%, yet the ISM Index for April grew rose from 53.4 to 54.8.  The Chicago PMI reading fell from 62.2 to 56.2, yet while construction spending was nearly flat at a 0.1% rise…. though that easily topped the forecasted 1.4% dip. 

In other words, last week gave the bears enough ammo and motivation to dig in, so they did.

Economic Calendar


This week should be much less hectic on the economic front.

Consumer credit kicks things off on Monday.  The pros say total credit usage is going to rise by $11.0, which is significantly better than February's $8.7 billion increase, yet actually below most of the recent readings (six months' worth) in the high teens.

Then there's not much else in the lineup until Thursday's unemployment claims, though they're clearly going to make waves.  Economists say this week's numbers should roll in at around last week's levels.  Any moderate variation above or below could mean fireworks for the better or worse (depending on the direction of the variation).  Just be ready.

On Friday we'll hear about producers' inflation… the PPI.  It should be flat overall, and only up 0.2% on a core basis.  Inflation has NOT become the problem many expected tit to become a year ago.  The consumer inflation numbers won't be out until the following Tuesday. 
 
Stock Markets

Last week's 34.26 point (-2.44%) dip for the S&P 500 (SPX (SPY) was the biggest weekly loss so far this year, leaving the index at 1369.10.  That's not even the troubling part of it though (for the bulls).  No, the most troubling part about last week is that the SPX closed back under the 20-day and 50-day moving averages – again – just a week after it fought so hard to crawl back above them.  There's a nuance this time, though, that makes this one a little more troubling than the last…… this time, the pullback pulled the 20-day average line (blue) under the 50-day line (purple) for the first time since December.  Not good.  Take a look, but keep reading.

SPX & VIX - Daily

You'll see the same basic bearish idea on the weekly chart in a second, but before you stick your head in the even, let's look at this thing from the other angle.

Yes, for a while now we've been (mostly) pounding a bearish drum warning (DIA) (QQQ) (IWM).  It wasn't a call for a new bear market.  It was just an expectation of a modest correction after the market become so incredibly overbought.  Last week's dip is part of that correction effort.  Here's the thing… the S&P 500 stayed that pullback off for so long, it gave the index's key long-term moving average lines like the 100-day and 200-day average time to catch up. The 100-day average (gray) is now at 1343, and the 200-day line (green) is at 1311.

There's another well-proven floor for the SPX at 1357, which lines up all of April's lows (dashed), and is also where the lower 20-day Bollinger band is waiting.

Point being, there's not a ton of room left to fall before the S&P 500 finds organic support.  Until the SPX actually moves under at least the 1342 level, we can only chalk the bearish pressure up to volatility.

To make the mess even more complicated given the size of Friday's plunge (-1.6%), there's a reasonable chance of a dead-cat bounce in the making.  It could be an inspiration for the bulls to give it another try, making most of the prior discussion moot.

Back on the other side of the fence, the CBOE Volatility Index (VIX) (VXX) (VXZ) has resumed its uptrend, and like the market's bigger-picture shift, the VIX's 20-day average is now above the 50-day line for the first time since last fall.  And, visually speaking, the daily chart of the VIX does indeed show us upward momentum is trying to develop.

If you really want to put it all in perspective though, check out the weekly chart.  With the weekly view of the S&P 500, we can see just how vulnerable the market is following the big December-through-April runup.  If the floors around 1345 don't hold up, there's not much else left to stop the bleeding for a while.

More than that though, it's with the weekly chart that we can see how hard the VIX is trying to get its new uptrend going.  If the VIX can get above the recent ceiling of 21.0, then odds are the SPX won't find support until the 1275-ish area.

In the meantime, all we can do is wait and see how this unfolds.

SPX & VIX - Weekly

Trade Well,

Price Headley

Price Headley:

Last year Animal Kingdom shocked the experts with only 4 prior races before his Derby win (I was lucky last year in having the Exacta box ALL with the 2nd place finisher Nehro, so I was pleased with the longshot on top).  This year the favorite Bodemeister would have to overcome 125 years of Derby history, as it's been that long since a Derby winner did not have a race in their 2 year old season.  The forecast for tomorrow’s Kentucky Derby is for hot weather, mid-80s and rain not likely.  With Churchill being a traditional dirt track while many horses are running on synthetic surfaces, I tend to favor those who have proven their ability on dirt.  With that in mind, plus the fact that this is a pretty strong group of 3 year olds this year, this is a relatively wide open race. 

Historically, I like to see 2 strong 100+ speed ratings coming into the big race.  Look at the past speed ratings of recent Derby winners coming into the race:

You can see that in the last 22 years, 17 Derby winners had a race speed of 100 or more in their prior race, while 12 of 22 have two straight 100+ ratings.  So in seeking out the winner, I lean heavily on these criteria.  Without any horses fitting the 2 straight 100+ speed numbers coming into the Derby, I’m left to take the average of the two to look for consistent performers that can be there in the mix, while having a couple of wildcards too.

Here's my expected order of finish, along with betting ideas (for those so inclined!):

Creative Cause (12-1 morning line odds, Post Position 8):  The California horses really look good to me this year, as Creative Cause was closing on I'll Have Another in the Santa Anita Derby and the extra 1/8 of a mile would have won it for him.  With the Derby such a test as it's the first time these horses have ever run 1-1/4 miles, I like the stalkers and closers in this field.

Bodemeister (4-1, PP 6):  Clearly the best speed ratings in the race (I'm throwing out 2nd choice Union Rags who's numbers aren't close), the main concern is so much speed in the race and Bode likes to be near the lead, so he could tire late.  I still back him to be in the top 3 for exotic bets. 

I'll Have Another (12-1, PP 19):  Very game colt held off Creative Cause by a nose last time out, if he can overcome traffic issues he could be closer. Outside post a mild disadvantage.

Gemologist (6-1, PP 15):  The horse is undefeated, I just sense a tougher trip from mid-pack will make it hard to weave through tiring horses. 

Wildcards:

Daddy Nose best 15-1, PP 10):  The same path via the Sunland Derby as Mine That Bird, gets top jock Garrett Gomez and should be flying late.  Only horse to win twice at 1-1.8 miles. 

Dullahan (8-1, PP 5):  Hey, the horse was awesome in the Blue Grass win, nice late closer, concerned about the polytrack win and how he does on dirt though he ran a closing 4th at Churchill in Breeders Cup Juvenile last fall.  Watch him closely, though 0 for 3 at Churchill so far.

Betting Strategy:  Remember that these are speculative bets, so any emails after the fact should only be sent as congratulations should we be so fortunate!  Here's what I plan to bet, based on each $100 in a betting "portfolio":

$10 Win on #8
$1 Exacta Box 8 with ALL
$5 Exacta 6 with 8
$5 Exacta 6 with 19
$1 Trifecta 6 with 8,19 with ALL

Moby Waller: 

This is a very nice field of horses in this year's Derby.  Many are closers (more than in previous years), which I tend to prefer in the large field, longer races like this.  I have 8 horses that I think can take it all, with morning line odds ranging from 9/2 to 20/1.  I threw out the early odds favorite, #6 Bodemeister (4-1 odds), because I don't think he is seasoned enough to contend and garner such low odds.

Narrowing it down to my top 4 finishers, incorporating the value of the potential payouts in the calculation:

3 – Take Charge Indy (15/1)

5 – Dullahan (8/1)

11 – Alpha (15/1)

19 -  I'll Have Another (12/1)

Calvin Borel has become a legendary Triple Crown closing jockey in recent years.  3 Kentucky Derby wins since 2007 says it all.  He is aboard #3 Take Charge Indy at nice 15/1 odds.  This horse has been more of a speed one in its two races this year, but the horse's pedigree and performance shows some distance.  This horse beat the 2nd favorite #4 Union Rags in its last race.  I can visualize Borel staying a bit off the pace (or even more) and making one of his patented runs to pull away with the upset.

The #5 horse Dullahan showed a great closing burst in his last race to win the Bluegrass Stakes over the ballyhooed #14 Hansen.  Dullahan looks poised to come on strong at the end and may even win this race.  The only caveat is that the horse hasn't shown much success at all on the Dirt surface, which is what Churchill Downs uses.  But you have to trust the experienced, top-notch jockey Kent Desormeaux to overcome that.

Other likely possible ITM (in-the-money) top 4 horses:

11 – Alpha (15/1)
19 - I'll Have Another (12/1)
4 – Union Rags (9/2)
14 – Hansen (10/1)
15 – Gemologist (6/1)
13 – Went The Day Well (20/1)

Here's to trading and other profits,

Price Headley

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How to Find Big Trends in Stocks and Options Price will share several of his favorite trend-following indicators, including his acceleration bands system, which looks for trends with increasing speed of movement; and his favorite strategy for options traders who swing trade over a period of one to five trading days. Options trading is not suitable for all investors. Before attending any options related presentation, please be sure to read the document titled Characteristics and Risks of Standardized Options available on TradeStation.com. You may also obtain the booklet by writing to TradeStation, 8050 SW 10 Street, Suite 2000, Plantation, FL 33324. By attending this presentation you are acknowledging that you will either read the booklet or are otherwise knowledgeable as to its contents. Your account application to trade options will be considered and approved or disapproved based on all relevant factors, including your trading experience. Automated trading, as it relates to direct-access electronic placement and execution of equity options trades, requires manual one-click verification before an order is sent. Price Headley Founder and Chief Analyst BigTrends.com

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3:15 – 4:30	Psychology of Trading, Guy Adami, optionMONSTER
4:30 – 5:00	Seminar Wrap Up

It may not seem like much happened, but a very important event occurred — this week the Dollar Index breached 78.65.  The reason that is significant is because 78.65 marked the intraday low of the prior daily cycle.  A penetration of that level indicates that the current daily cycle has now topped in a left translated manner and a new pattern of lower lows and lower highs has begun.  Any time a daily cycle tops in a left translated manner it almost always indicates that the intermediate cycle has also topped.

In this case it would indicate that the intermediate dollar (UUP) cycle topped on week two and should now move generally lower for the next 10-12 weeks, bottoming sometime in late June or early July, about the time Operation Twist ends.

Dollar Index Chart

Now that we have confirmation that Bernanke has broken the dollar rally I'm confident in calling April 4th an intermediate bottom (B-Wave bottom) in the gold market.  Gold (GLD) should now be entering the consolidation phase of the next C-wave.  I expect a test of the all-time highs sometime this summer as the dollar moves down into its intermediate cycle bottom.

Gold & Dollar Daily Chart

That being said I have no interest in a 15% rally in gold.  The real money will be made as the mining stocks (GDX) exit their bear market, re-enter the consolidation zone between 500 and 600, and move up to retest the old highs.  It's not inconceivable that we could see a 30-45% gain in mining stocks over the next 2 1/2 months.

Sentiment in the mining index has reached the same levels of bearishness that were seen in the fall of 2008.  That black pessimism drove a 300+ percent rally over the next two years.  I have little doubt this time will be any different.

Now what we need to see is a change in character.  We need the mining stocks to stop generating these sharp bear market rallies and transition into the wall of worry type rally that characterizes a bull market.  So far that is exactly what is happening.  The miners are rallying very hesitantly, and as long as this continues it will camouflage the move and keep sentiment depressed.  That's exactly what we need to happen to drive a long sustained rally back up to the old highs. 

The problem with the rocket launch type rallies we've seen over the last year and a half is that they swing sentiment very quickly to the bullish side and we run out of buyers.

As long as the bottoming process proceeds gradually I think there's a very good chance the HUI Gold Bugs Index could break back above the 200 day moving average, and possibly test the 600 level by mid-July.

HUI Index Chart

So far all of the pieces are starting to fall in place to initiate the very early stages of what I think will eventually become another huge momentum move similar to what happened in silver (SLV) and gold last year.  This scenario may well culminate in a parabolic blow-off top sometime in late 2014 as the dollar moves down into its next three year cycle low.

HUI Long Term Chart

Now is the time to invest in this sector as it struggles to transition from a bear market back to the secular bull trend.  The time to enter is at the very beginning when no one believes.  This is when the really big money is made.  If you wait till your emotions give you the all clear, half the move will be over.

Most traders are going to jump back into the general stock market (SPY) or tech stocks (QQQ) (XLK).   You have to be smarter than that.  The stock market, including tech, have already generated a massive move out of the October bottom.  That kind of move usually leads to a multi-week, or month, consolidation.  The odds of another 20 to 30% rally in the stock market are very slim.

The odds of a 20 to 30% rally as the mining stocks resume the secular bull trend are extremely high.

The combination of extreme downside momentum and irrational human nature has created the kind of oversold conditions and extreme undervaluation that generates an opportunity that only comes around once or twice a decade.

Courtesy of Toby Connor, GoldScents

Similar to the demand pull that the warmer than usual spring has had on macroeconomic data, the warmer spring caused me to have an earlier than usual sinus infection as well as some horrific allergies.  I suppose I am pushing it a bit far when I am comparing my health concerns to economic data, but alas I fly my nerd flag proudly.

Recently I have been advising  to be cautious as the market appears to be at a major crossroads.  The U.S. Dollar Index (UUP) is on the verge of a major breakdown.  If a breakdown occurs it will be clear that the Federal Reserve will have officially stopped any potential rise in the U.S. Dollar.  Over the past few months the Dollar has been producing a series of higher highs and higher lows, however the current cycle may break the pattern as can be seen below.

Dollar Index Chart

If the U.S. Dollar pushes down below the recent lows and we get continuation to the downside, we will break the recent bullish pattern.  Furthermore, if the Dollar starts to weaken it should benefit equities and other risk assets such as oil (USO).  Higher energy prices would not be long term bullish for equity markets so there is concern if the Dollar really starts to extend lower.

However, if the Dollar finds a bottom and rallies it clearly would create a headwind for equities.  We should know whether we have a major breakdown on the daily chart in the next few weeks.  Until then, the Dollar could go either way and obviously the price action in the Dollar will have a major impact on risk assets and stock market returns in the near future.

From a macroeconomic viewpoint, risk assets such as the S&P 500 Index (SPX) (SPY) could be in trouble in the months ahead.  U.S. gross domestic product (GDP) came in lower than expected with revisions likely in the near future.  Unemployment claims appear to have bottomed and are rising week after week even though the major media fails to report it appropriately, as it would appear that the Bureau of Labor Statistics has stumped media pundits with data revisions.

Additionally, there are two other macroeconomic data points which need to be mentioned.  The Citigroup Economic Surprise Index (produced by Morgan Stanley) has moved below zero and is showing a negative reading.  This index is generally a leading indicator regarding equity prices and the recent decline shown below is problematic for the bullish case.  [Explanation of the Economic Surprise Index is here.]

Economic Surprise Index

As can be seen above, fundamental data is starting to skew towards the downside, which is likely a result of the recession that is in the process of developing over in Europe and potentially in China.  Time will tell if the index can reverse, but the bulls need to see a major reversal in the near future.

The chart below illustrates the relationship between metal prices and industrial productivity.  Demand for metal increases when economies are expanding and prices generally contract when economies retract.  The chart below demonstrates global metal demand.  The chart speaks for itself.

Metal Demand Chart

Clearly if industrial production contracts (reduction in Global Manufacturing PMI) the impact on the global economy will be felt across multiple countries' economies.  The chart below illustrates the MSCI World Index compared to global manufacturing PMI.  Similarly to the chart above, this chart also tells a significant story about what investors and traders should expect if the PMI numbers come in light against expectations.

Global Manufacturing Chart

As quoted from the zerohedge.com article entitled What do Metal Prices Tell us About the Future of the Stock Market, "In other words, for those who still believe in logical, causal relationships (even in a time of ubiquitous central planning) unless something drastically changes to push fundamental demand of metals higher, one could say the outlook for equities is not good."

Essentially, the data shown above is certainly not bullish in the intermediate to longer term.  However, it generally takes time for macroeconomic data to permeate all the way through to equity markets.  For right now, the story regarding global growth is at the very least questionable based on the data illustrated above.

In the short term anything is seemingly possible.  The S&P 500 Index closed above the key 1,400 price level recently.  I would not be shocked to see prices extend up to the recent highs near 1,420.  Ultimately I think we are in a long term topping formation that might require another higher high up to around 1,440 before we see a deeper correction.

The past few weeks have produced a very mild correction compared to the monster rally we have seen since October of 2011.  This is a bullish signal, but we need to see prices continue higher and climb a serious "wall of worry" that is coming out of a variety of places.  The European situation continues to worsen overall and we have lower than expected GDP numbers in the US paired with concerns about growth in China.

The S&P 500 has some negative headlines to deal with, but so far it has been able to shrug off poor economic data and we could see an extension higher that would shake out the shorts and run stops above the recent highs.  However a move lower remains possible.  The daily chart of the S&P 500 illustrates the recent correction and the 1,420 highs.

SPX Daily Chart

I believe that the next few weeks are going to be critical and the S&P 500 may trade in a consolidation zone between recent lows and the 1,420 highs while traders await more economic data.  Fundamental data is starting to indicate that a slow down may be beginning.  In contrast, the topping pattern that we appear to be carving out may require higher prices to suck in more longs before moving into a deeper correction.

In the short run, the Dollar will likely hold clues regarding the immediate future for risk assets.  However, the longer term picture for equities is quite murky based on the economic data points we are seeing paired with additional concerns stemming from the European sovereign debt crisis.  Right now I am looking at time decay based strategies in the near term and will likely lessen the number of directional biased trades.  I would urge readers to be cautious regardless of which direction they favor.

Courtesy of JW Jones, www.OptionsTradingSignals.com

When United-ICAP analyst Walter Zimmermann set eyes on the big, boldface, tabloid-esque headline "DOW 15,000" on the Feb. 13 cover of Barron's, it was akin, he says, to a black cat crossing the path of stock investors.

The next day, he e-mailed a report to clients warning that the respected financial weekly's upbeat story – which laid out why the 3-year-old bull market had more room to run – might be signaling just the opposite.  Citing history, he argued that the bullish message splashed on the cover of Barron's was a textbook contrarian signal showing that investor optimism was getting too euphoric.  Zimmermann concluded that all the ingredients were in place for a "major, world-class top" in the stock market.
 Bullish cover stories, Zimmermann's extensive research shows, are more akin to a Wall Street curse.  A sign of coming bad luck.  A warning flag.

Zimmermann bases his bearish reaction to the bullish story on what he dubs the "Cover Story Syndrome."

"History has shown," he says, "that by the time a financial trend has lasted long enough and been powerful enough to make it onto the front page of a magazine, that trend is typically ending, (is) already over or has already reversed direction."

Often, what has been flying the highest is also at risk of falling the hardest.  The "cover curse" is not just tied to the stock market.  Bullish cover stories related to oil, the U.S. dollar, gold, individual stocks, hot companies, superstar CEOs, even elite athletes, often portend topping action.  The reason: Cover stories are always super-bullish at the top or at times of peak performance.

The Dow has doubled since its bear market bottom three years ago and would have to rise another 12.7% to reach 15,000.  The night before the Barron's story touting Dow 15,000 hit newsstands, the Dow closed at 12,801.  It's currently trading roughly 300 points higher at 13,091, after dipping as low as 12,716 in early April.

Outlier performances by stock indexes, companies and sports stars are hard to sustain, setting big winners up for a fall.  All sublime performances are subject to "mean reversion":  At some point, the outperformance ends, and more-average performance returns.

The risk for investors is that they may get overly confident after reading optimistic cover stories, let their guards down and dive into the stock market, even though the bulk of the big move up has already occurred, says Price Headley, chief investment strategist at BigTrends.com.

"Regular investors say to themselves, 'This is a great time to buy,' " says Headley.

Up from the bear market low, Dow Jones industrial average, 3 year chart.

A better time to buy, Headley says, is when there is "maximum pessimism and fear," and the media are running stories that warn of impending doom.  The best example is the infamous BusinessWeek cover story, "The Death of Equities," that ran in its Aug. 13, 1979, issue.  Stocks, of course, were about to start a two-decade bull run.

Bob Dickey, of RBC Wealth Management, noted in a report that stocks "voted most popular" by the press tend to be near the end of their rallies.

A Time magazine cover at the height of the Internet boom in December 1999 that named Amazon (AMZN) CEO Jeff Bezos as "Person of the Year" also marked the peak of Amazon's stock in that market cycle.  The online retailer hit an intraday high of $113 in mid-December 1999, only to fall to a low of less than $6 a share in late September of 2001.

Omens and warnings?

History proves that nothing lasts forever, no matter how good the story seems at the time:

.Near the last stock market top in 2007, for example, a March 5 Fortune magazine cover story dubbed Stephen Schwarzman, CEO of private-equity firm Blackstone, "The New King Of Wall Street."  Three months later, on June 25, Blackstone's (BX) stock peaked on the first day of its initial public offering.  It closed that day at $32.44 and fell nearly 90% before bottoming at less than $4 a share in February 2009.

A similar fate has befallen football players selected for the box cover of the Madden NFL video games.  It's called the "Madden Curse."  Quarterbacks Michael Vick and Donovan McNabb both suffered injuries and missed time after appearing on the cover.

There's also the famous Sports Illustrated "cover jinx," in which athletes featured on the sports magazine's cover go on to experience bad luck.  Race car driver Pat O'Connor was featured on the cover of SI's 1958 Indianapolis 500 preview.  He was killed in a 15-car pileup during the race's first lap.  In 2002, SI did an analysis of the "cover jinx" and found that nearly 40% of its cover subjects suffered a major misfortune or decline in performance after they graced the cover.

A trending buzz

Cover stories that make major market calls are rare, as they occur only after editors deem it the story with the most buzz after sifting through any number of hot topics trending among the masses.  These stories, which tout coming booms or busts, also tend to be reliable contrarian indicators.  In other words, by the time a story such as Dow 15,000 attains cover status, it's usually a sign that most of the good news is already priced into the market and that the investing herd is all leaning dangerously in the same direction.

"Readers want to read about the latest, greatest thing," explains Zimmermann.  "What's booming.  What's going up.  What company or person is shining the brightest.  But by the time it makes it to the cover of a magazine, the trend has been on an ascent for a long time. Nothing goes up forever."

A BigTrends.com analysis of bullish and bearish cover stories in the past three decades found that the stock market moved in the opposite direction of the article's call more than 70% of the time.  A big reason stocks tend to slump after major bullish stories is that media coverage raises expectations too high.

"Think of it like raising the bar higher and higher for a high jumper," says Headley. "Each time you raise it, it increases the risk of disappointment."

Just when investors might benefit from a story warning of the potential risks ahead, the news tends to follow the trend and point out all the reasons stocks have been going up, which could cause investors to jump in at the wrong time.

Collating the signs

Wall Street has long sought to identify contrarian signals.  Magazine cover stories are just one tool.  Investors measure bullish and bearish sentiment by tracking weekly polls of individual investors, financial newsletter writers and investment advisers. In general, when the polls get overly bullish or bearish, analysts alert investors to the possibility that the market's price action will move in the opposite direction.

The most recent poll of members of the American Association of Individual Investors shows that only 31.2% are bullish, which is below the 39% long-term average and the 38% of bulls at the market peak in April 2011.  Still, the level of bullishness is far from excessive, as it's way below the level of around 60% bulls that marked tops in 2000 and 2007.  But another sentiment poll tracked by Zimmermann is nearly as bullish as it was near the peaks in 2007 and 2000.

Right now, even though the Barron's story sent a super-positive message, other sentiment indicators suggest that optimism is far from extreme, which bodes well for stocks, counters Carmine Grigoli, chief investment strategist at Mizuho Securities USA.

"Some key elements that point to excessive optimism are missing," says Grigoli. "What is missing are excessive valuations, extensive involvement in the stock market by individual investors and excessive speculation. While there is some bullishness out there, there is not enough to say, 'This is the time to check out of stocks.' "

Retail investors have yanked money out of U.S. stock funds nine consecutive weeks, says the Investment Company Institute, a mutual fund trade group.  And the broad market is trading at 13 times projected 2012 earnings, below the average price-to-earnings ratio of 15, says S&P Capital IQ.

The usefulness of the Cover Story Syndrome as a market-timing tool is most accurate when it's evaluated in the context of all the current business conditions driving stock prices, says Chris Johnson, director of research at JK Investment Group.

"You don't want to call it an indicator on its own," he says.  Currently, given the improving economy, positive price action of the Dow, and the fact that retail investors are still skittish and yanking money out of stock mutual funds and pouring it into bond funds, suggests that Barron's Dow 15,000 cover may be a realistic price target.

"The Dow 15,000 cover makes a little bit of sense," Johnson says.  The market's upturn, he adds, is far from the final stage of a bull market, what he dubs the "euphoria stage."  If it were, investors would be "all in," and dumping their bond funds to buy stocks.

Courtesy of Adam Shell, USA TODAY

Economic Calendar

Overall, last week wasn't a great one in terms of economic numbers.  Home sales as well as home prices were down, durable orders were way down, unemployment claims stayed up at least week's higher levels, and Q1's GDP growth (first estimate) was short of expectations.  [It makes one wonder what exactly put traders in a bullish mood, because it sure couldn't have been earnings.]

Specifically, durable orders slumped by 4.2% last month, though when taking cars out of the equation, the decline was limited to a 1.1%, not that either is an encouraging figure.  What's interesting is that orders with automobiles lagged so badly despite the fact that March's car sales – not to mention year to date care sales – have been quite strong… much stronger that any year-ago comparison.

On the real estate front, new homes sales only sold at an annual rate of 328K, falling back from February's rate of 353K.  On the other hand, pending home sales grew by 4.1% for March, while home prices sent a mixed message.

New unemployment claims rolled in again at 388K, while ongoing claims were reported at 3.315 million, just a tad higher than the previous week's reading.  Both are still low compared to year-ago marks, but this recent stagnation of the downtrend has to leave you wondering if the bulk of the decline is now over, and of job growth from here is going to get real difficult.

Economic Calendar

As for the coming week, it's going to be even busier.  Here are the highlights and some things to think about.

* Monday:  Not that it's a huge deal, but personal income and personal spending are expected to be up modestly for last month. (spending more so than income).

* Tuesday:  The ISM Index doesn't' mean a lot, but last month's auto sales could rock the boat.  Last week we saw durable orders including auto orders fell badly, yet car sales are forecasted to be up to very strong annualized sale levels (5.4 million cars, and 5.7 million trucks).  That would be even better than March's levels, which were back up to 2007's record levels.

* Wednesday:  The ADP Employment change figure should be an omen of what to expect with Friday's official (government) payrolls-added number.  Look for something around 170K for both data sets.

* Thursday:  Unemployment claims, as usual. Both should be down a little, but if the come in high again for a third week, that could prove to be depressing to investors.

* Friday:  This is going to be a huge day for stocks, primarily because it's a huge day on the unemployment front.  We'll hear the official nonfarm payrolls (added) figure, but more important than that, we'll hear the unemployment rate for April.  Look for 8.2% again.  All eyes are in this number though, so anything above or below that level could have corresponding explosive results for stocks.

Stock Markets

The chart speaks for itself.  The S&P 500 (SPX) (SPY) had been unable to fights its way back above the important 20-day and 50-day moving average lines at 1384, but last week, the index managed to clear both, closing at 1403.36.  That was 1.8% better than the prior week's close, and the move was made on what ended up being decent volume.

The bullishness also pushed the CBOE Volatilty Index (VIX) (VXX) (VXZ) under its key moving average lines, yet didn't force the VIX into an inflection point at its lower Bollinger band (20-day) at 14.73.

With the VIX not yet at its lower extreme and the SPX not yet at its upper extreme – the upper 20-day and 50-day Bollinger bands, both at 1420 – it certainly looks like the market at least a little more room to run.  And truth be told, it does.  More than that, we think it will continue to do so… the trend is your friend until it clearly isn't.

S&P 500 & VIX – Daily Chart


On the other hand…

With the exception of Apple (AAPL), earnings season is just mediocre, if that.  Earnings growth for the S&P 500 not counting Apple is around 1.6%, which is bad enough to make investors think twice about stocks sooner or later.

So, there may be enough gas in the tank to push the index all the way up to the ceiling at 1420, but beyond that the deck gets heavily stacked against the market.  Aside from tepid earnings growth, we're also entering the slowest and weakest (on average) time of year for stocks.  It will take next to nothing to push the market into a lethargically bearish rut, and the combination of weak earnings and overhead resistance is more than enough to do the trick.

Besides, after the 17% runup between mid-December and early April, we're due for a dip bigger than the 4.6% pullback we got.  We're not saying we need a catastrophic, but the selloff we've seen so far didn't likely satiate the bears.  That 'enough' point for the corrective move may be something closer to the 200-day moving average line (green) at 1307.34, which would represent an 8% dip… more in line with a normal bull market correction.

But hey, you never know…  The bulls may be able to drive the SPX up and through its upper Bollinger bands around 1420.  We just wouldn't bet on it until we started to see it happen.

Side note: A major support line materialized at 1357 (red, dashed) for the S&P 500.  That was the low from mid-April as well as last Monday, and it's also where you'll find the lower 20-day Bollinger band (gray) now.  This all may ultimately turn into a war between a very tight range of support and resistance.  Keep an eye on both lines in the sand.

S&P 500 Earnings/Valuation

As was noted already, Apple's grand-slam-like quarter has carried the bulk of the weight for the S&P 500 earnings success this season.  Then again, it is what it is.  Its size means it should have that kind of impact on the overall market, since its one of the most – if not the most – highly-owned stocks on the planet.

We make that point to underscore the fact that the S&P 500's trailing P/E ratio as well as the trialing and projected earnings trend should still be take at face value.  To that end…

With about a fourth of the market having posted numbers, Q1's earnings growth has been merely tepid.  Yet, the market is still a 'bargain' at a trailing P/E of 14.15.  Indeed, the S&P 500 may well end up putting up record earnings for last quarter, of $25.38.  And from there, the growth is expected to march well into record profit levels. I t may not be of much help for the market in the near-term, but for your long-term money, major dips are still buying opportunities.

S&P 500, with Earnings and P/E Ratio

Trade Well,

Price Headley

The Social Security Administration made an alarming announcement recently that they will exhaust their funding capability by 2033 which was several years earlier than originally projected.   According to a recent article from Reuters:  "Unless Washington politicians, who have been at war with each other over government spending priorities and federal budget deficits, can decide how to put Social Security on a sound footing, retirees' pension checks would start running out in 2033, according to an annual report.

The baby boomers – those 78 million Americans born between 1946 and 1964 – started retiring last year.  With 10,000 of them expected to retire every day for the next 19 years, according to the Pew Research Center, they will increasingly strain Social Security."

As millions of baby boomers approach retirement more strain is put on the fabric of the Social Security system.  The exact timing of this crunch is less important than its inevitability.  The problem that Social Security has is "real" employment.  I say "real" employment simply to sidestep the ongoing arguments about the validity of government employment survey's from the Bureau of Labor Statistics.  The question we want to know is if we are creating jobs and what types of jobs are we creating?  The answer to those questions tells us much about the strength of the underlying economy.

The Federal Government receives income from the Social Security "contribution" from employee's paychecks.  The chart above shows the annual levels of employment as reported by the BLS versus the receipts of social security contributions.  As you can see while there has been a negligible increase in the number of non-farm employees – social security "contributions" have decreased sharply by almost $70 billion from its peak.

This is due to two factors.  The first is that the number of "real" employees, while growing, is in lower income producing and temporary jobs.  Since social security contributions are calculated as a percentage of income – lower income levels produce lower contributions.  We have written about this previously on the "real" employment situation.  However, in a recent interview Richard Yaramone spoke specifically to this issue stating "I'm fortunate enough to travel and speak to chambers of commerce with 300 to 500 people in the audience.  They all tell me, 'Hey, listen, I am letting go of workers. I'm hiring them back at a fraction of what I used to pay them.  You hear from the other side, 'Hey, I finally got a job after two years of being unemployed. I used to make $100,000 (each year), now I'm making $45,000 or now I'm working part time.' Or (you hear), 'I used to make $500,000 and now I'm making $200,000 or making $125,000.'…."

Here is the key statement and something that we address often in regard to the NFIB surveys:  "So you are actually seeing this collapse, contracting on a real basis, of real disposable personal incomes.  If you don't have the money, you can't facilitate expenditures.  So that's the core of the problem. T hat's what's really going on in the US economy.  You don't listen to what all of these bigger numbers coming across the screen tell you.  You talk to the people who are running the country. 99.7% of all employer firms in this country are small businesses. So when they speak, you have to listen."

The second factor is that a larger share of personal incomes is made up of government benefits which does not affect social security contributions.  The chart tells the tale in this regard.  Since the financial collapse government support of personal incomes spiked from just over 25% of incomes to almost 35%.  This also does not include the 45 million plus Americans also collecting nutritional assistance, or "food stamps", from the government. 

The dependency upon government for financial support is a long term economic problem because it reduces economic prosperity.  However, the problem that Social Security faces is that the program's annual cash surplus continues to shrink due to lower receipts from working American's.  The problem for Social Security, and the U.S. in general, comes long before 2033.  In 2017 or 2018, just 5 to 7 short years from now, Social Security will begin paying out more in benefits than it receives in taxes.  It could come even sooner.   As the cash surplus is depleted, which is primarily government I.O.U.'s, Social Security will not be able to pay full benefits from its payroll and other tax revenues.  It will then need to consume ever-growing amounts of general revenue dollars to meet its obligations–money that now pays for everything from environmental programs to highway construction to defense.  Eventually, either benefits will have to be slashed or the rest of the government will have to shrink to accommodate Social Security.

As millions of baby boomers begin to retire another problem emerges as well.  Demographic trends are fairly easy to forecast and predict.  (My friend Doug Short has done some excellent work in this area)  Each year from 2008, when those born in 1946 reach Social Security's early retirement age of 62, until 2025 we will see successive rounds of boomers reach the 62 year-old threshold.  There is a twofold problem caused by these successive crops of boomers heading into retirement.  The first is that each boomer has not produced enough children to replace themselves which leads to a decline in the number of taxpaying workers.  It takes about 25 years to grow a new taxpayer.  We can estimate, with surprising accuracy, how many people born in a particular year will live to reach retirement. The retirees of 2070 were all born in 2003, and we can see and count them today.

The second problem is the employment problem.  The decline in economic prosperity, that we have discussed extensively, caused by excessive debt, reduction in savings, declining income growth due to productivity increases and the shift from a manufacturing to service based society will continue to lead to lower levels of taxable incomes in the future.  Furthermore, with unemployment in the U.S. remaining stubbornly high, the longer that all-important 25-35 year old person remains unemployed the related loss in relevant job skills leads them to becoming unemployable.

This employment conundrum is critical.  Back in 1950, as the baby boom was just beginning to start, each retiree's benefit was divided among 16 workers.  Taxes could be kept low.  Today, that number has dropped to 3.3 workers per retiree, and by 2025, it will reach–and remain at–about two workers per retiree.  Each married couple will have to pay, along with their own family's expenses, Social Security retirement benefits for one retiree.  In order to pay promised benefits, either taxes of some kind must rise or other government services must be cut.  The chart shows this relationship between social benefits paid out in total (including social security, Medicaid, Medicare, etc.,) and the burden upon each non-farm employee.   Back in 1966 each employee shoulders $555 dollars of social benefits.  Today, each employee has to support $17,387 of benefits.  The trend is obviously unsustainable unless wages or employment begins to increase dramatically and based on current trends that seems highly unlikely.

The entire social support framework faces an inevitable conclusion and no amount of wishful thinking will change that.  The question is whether our elected leaders will start making the changes necessary sooner, while they can be done by choice, or later when they are forced upon us.

Courtesy of Lance Roberts, Street Talk Live