Watch the Bounce

Last week saw markets around the world hit turbulence, as concerns over European nations, and indeed, even the survival of the Euro, escalated.

One of our long term themes is that during an economic crisis, we find out who the Faux Capitalists are and who truly believes in Free markets. Like atheists in foxholes, the Faux Caps beg the government for assistance when under duress.

Last week saw strong rallies in Bonds and Dollars, and weakness in Stocks, Commodities and the Euro. That could set up a counter-move the next few days. The quality of the initial bounce today — breadth and volume especially — will help determine the subsequent intensity and duration of these moves.

Lets take a quick look at what might be in store for various asset classes:

Stocks: Suffered the biggest weekly decline since October 2008 (when TARP proposal failed). The Dow sank 6.4% for the week, and overall, the rout erased $1 trillion from U.S. equities. Year-to-date, the S&P500 is down almost 10%. Traders heading into the weekend expected the ECB and policy makers’ to throw money at Europe’s debt crisis. No real rescue plan emerged.

From the April 29 peak to Friday’s close, the S&P500 is down 17%.  The 105% bounce off of the March 2009 lows has been slashed to a 68% gain.

Traders should note that Nasdaq bounces are nearly double SPX or Dow, and that is where you want to play this next move.

Bonds: Treasuries remain the safe harbor, despite all of the problems in the US. We may depend upon the kindness of strangers in the US, but its the least unattractive global option.

Dollar: Most observers misunderstand the dollar. The collapse was form 2001-2008, where it plummeted 41%. Since then, the DXY has been mostly range bound. The technical picture has improved significantly for the greenback. Look for a bounce that could begin a lasting move in the dollar, with all the attendant impacts on other asset classes.

Commodities: Fell to a 10 month low last week. The GSCI Spot Index dropped 21% from April highs. Bloomberg notes that the “last time the index fell that much was in 2008 when the global economy sank into its worst slump since World War II.”

Commodities are now at their lowest levels in ~10 months. Expectations are that slowing global economies — including China — will curb raw-material demand. It is noteworthy that Dr. Copper, the metal with a PhD. in economics,  “plunged below $7,000 a ton for the first time in more than a year.”

Economy: As the FOMC statement last week made clear, risks to the U.S. economy have increased. Europe’s debt crisis is unlikely to be resolved in a positive fashion. Earnings are likely to be pressured off of their peaks — anywhere from 15-40%.

The bottom line is that some sort of a counter-trend move is coming, with a bounce in equities and commodities quite probable. But we have not yet seen a capitulation to mark the end of this downward move, and I put us only in the 4th inning.

If the bounce fails, look out below . . .

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See also:
Commodities Drop to 10-Month Low as Silver Plummets on Debt, Growth Risk
Chanyaporn Chanjaroen
Bloomberg, Sep 26, 2011
http://www.bloomberg.com/news/2011-09-26/commodities-drop-as-silver-slumps-on-europe-debt.html