The 'Lehman Moment' Is Here ?

The strangely-named MF Global (MF) is now the subject of the lead article of the online New York Times, with the title "Regulators Investigating MF GLOBAL for Missing Money." Here’s the lede:

Federal regulators have discovered that hundreds of millions of dollars in customer money has gone missing from MF Global in recent days, prompting an investigation into the brokerage firm, which is run by Jon S. Corzine, the former New Jersey governor, several people briefed on the matter said on Monday.

The recognition that money was missing scuttled at the 11th hour an agreement to sell a major part of MF Global to a rival brokerage firm. MF Global had staked its survival on completing the deal. Instead, the New York-based firm filed for bankruptcy on Monday.

One of the reasons for the stock market crash after Lehman is discussed in the article. Innocent hedge fund money (if there is such a thing!) was lost to the rightful owners in the collapse. If indeed there has been misappropriation of customer funds at MF, how many customers are going to withdraw their funds from other commodities accounts as well as from standard stock/bond brokers, after selling their holdings first? Especially after the frustrating decade-plus the US have experienced in the financial markets, why shouldn’t people just move to direct ownership of Treasurys and into FDIC-insured bank deposits?

The story could hardly be worse. MF Global was not just any old futures firm. It was run by a stalwart of the Democratic establishment and the former leader of Goldman Sachs. If his firm was guilty of what would basically be akin to embezzlement of funds owned by the firm’s clients, whether or not Mr. Corzine was blameless, how could one trust a securities firm run by someone who had not been a high-ranking government official?

A major “risk-off” move could be in the making.

Twist And Shout?

What in the wide, wild world of monetary policy is the Fed doing, giving essentially unlimited funds to European banks? What are they seeing that most do not? And is this a precursor to even more monetary easing at this next week’s extraordinary FOMC meeting, expanded to a two-day session by Ben Bernanke? Can we say “Operation Twist?” Or maybe “Twist and Shout?” Not many charts this week, but some things to think about.

Bailing Out Europe’s Banks

Yesterday the Fed announced that along with the central banks of Great Britain, Japan, and Switzerland it would provide dollars to European banks that have lost their ability to access dollar capital markets (basically each other and US-based money market funds) that are slowly letting their holdings of European bank commercial paper decrease as it comes due. And if they are “rolling it over,” they are buying very short-term paper, according to officials at the major French bank BNP Paribas.

Are US taxpayers on the hook? We will deal with that in a minute. The more interesting question is, why do it at all and why now? Was there a crisis that we missed? Why the sudden urgency?

One of the little ironies of this whole Great Recession is that the central banks of the world rolled out this policy on the 3rd anniversary of the Lehman collapse. The Fed acted AFTER that crisis to provide liquidity. And we know the recession and bear market that followed.

The only reason for this move must certainly be that they are acting to prevent what they fear will be another Lehman-type crisis. Otherwise it makes no sense. They can give us any pretty words they want, but this was not something calculated to make the US voter happy. To do this, you have to be convinced that “something evil this way comes.” And to recognize the costs of not doing anything, and try to head them off.

My guess (and it is that, on a Friday night) is that the European Central Bank made a presentation to the other central bankers of the realities on the ground in Europe, and the picture was plug ugly. It should be no surprise to readers of this letter that European banks have bought many times their capital base in sovereign debt. The Endgame is getting closer (more on that in a minute).

Let’s look at just one country. French banks are leveraged four times total French GDP. Not their private capital, mind you, but the entire county’s economic output! French banks have a total of almost $70 billion in exposure to Greek public and private debt, on which they will have to take at least a 50% haircut, and bond rating group Sean Egan thinks it will ultimately be closer to 90%. That is just Greek debt, mind you. Essentially, French banks are perilously close to being too big for France to save with only modest haircuts on their sovereign debt. If they were forced to take what will soon be mark-to-market numbers, they would be insolvent.

Forget it being simply French or Greek or Spanish banks. Think German banks are much different? Pick a country in continental Europe. They (almost) all drank the Kool-Aid of Basel III, which said there was no risk to sovereign debt, so you could lever up to increase profits. And they did, up to 30-40 times. (Greedy bankers know no borders – it comes with the breed.) For all US bank regulatory problems in the US (and they are legion), I smile when I hear European calls for US banks to submit to Basel III. Bring that up again in about two years, when many of your European banks have been nationalized under Basel III, at huge cost to the local taxpayers.

Next, let’s look at the position of the ECB. They are clearly seeing a credit disaster at nearly every major European bank. As I keep writing, this could and probably will be much worse for Europe than 2008. So you stem the tide now. But for how long and how much does it cost? A few hundred billion for Greek debt? Then Portugal and Ireland come to mind. If bond markets are free, Italy and Spain are clearly next, given the recent action in Italian and Spanish bonds before the ECB stepped in.

Could it cost a half a trillion euros? Probably, if they have to go “all in.” And that is before the ECB starts to buy Italian and Spanish debt (Belgium, anyone?), which no one in Europe is even thinking that the various bailout mechanisms (EFSF, etc.) could handle, which leaves only the ECB to step up to the plate. The ultimate number is quite large.

WWGD?

What Will Germany Do? That has to be the question on the mind of the new ECB president, Mario Draghi, who takes over in November, just in time for the next crisis. I believe German Chancellor Angela Merkel at her core is a Europhile and wants to do whatever she can to hold the euro experiment together. But for all that, she is a politician, who knows that losing elections is not a good thing. And the drum beat of the German Bundesbank and German voters grows ever louder in opposition to the ECB printing euros. Can she explain the need for this to her public?

Germany thought they were getting open markets and an ECB that would behave like the Deutsche Bundesbank. And it did for ten years. Now, in the midst of crisis, the rest of Europe is talking about needing a less restrictive monetary policy. That means potential inflation, which still strikes fear in the hearts of proper German burghers.

What Is the Fed Really Risking?

This will be where I lose a few readers. The actual answer to the above question is, “Not much.” The Fed is not lending to European banks or even to the various national central banks. Its customer is the ECB, which will deposit euros with the Fed to get access to dollars. Making the safe assumption that the Fed knows how to hedge currency risk (fairly easy), the only risk is if the ECB and the euro somehow ceased to exist. And these are swap lines. This is not a new concept; it has been authorized since May, 2010. The real difference is that previously it has been used only for loans with seven-day maturity, and now that is extended to three months. This gives the ECB the ability to lend dollars for 3 months, which they must think will entice US money-market funds back into at least short-term commercial paper. (Just stay one step ahead of the ECB and the Fed, and your loan is “safe.” We will see how enticing this is.)

Now, this is not without costs. It is effectively another round of QE, although theoretically less permanent than the last rounds, as the swap lines have a finite and rather short-term end. And those banks need the money for existing business, so it should not flood the market with new dollars. If that were to happen, the Fed should withdraw the lines or withdraw dollars from the system on its own. Allowing their balance sheet to expand through a back-door mechanism like this is not appropriate monetary policy and would draw deserved criticism.

Why do it? It is not for solidarity among central bankers. The cold calculation is that a European banking crisis would leak into the US system. Further, it would throw Europe into a nasty recession, when growth is already projected (optimistically) to be less than 0.5%. That means the market that buys 20% of US exports would suffer and probably push us into recession, too (given our own low growth), making a far worse problem for monetary policy in the not-too-distant future.

Finally (and this is one I do not like), if the ECB was forced to go into the open market for dollars, the euro would plummet. As in fall off the cliff. Crash and burn. Which would make US products even less competitive worldwide against the euro. While I think we need a stronger dollar, that is not the thinking that prevails at higher levels. You and I don’t get consulted, so it pays us to contemplate the thought process of US monetary leadership and adjust accordingly.

Finally, I think that the end result of lending to the ECB will be to postpone the problem. The problem is not liquidity, it is insolvency and the use of too much leverage by banks and governments. This action only buys time. And maybe time is what they need to figure out how to go about orderly defaults, which banks and institutions to save and which to let go, which investors will lose, whether some countries must leave the euro, etc. Frankly, the world needs Europe to get its act together.

What Will the Fed Do Next Week?

Fed Chair Ben Bernanke has taken the highly unusual step of adding an extra day to next week’s FOMC meeting. While that raised my eyebrows, I thought his monetary policy movements would continue to be constrained. Given yesterday’s announcement of coordinated policy with the ECB, I am not so sure now. These things do not happen overnight or in a vacuum. The phone lines must have been open to Europe. The Jackson Hole meeting seemed innocuous enough, but I bet there were some very deep private conversations. This is something they have seen coming for some time. It is not like the whole euro problem is a surprise. Now, Bernanke has to bring his fellow FOMC members along for the next round.

Operation Twist seems to be priced into the market. The original Operation Twist was a program executed jointly by the Federal Reserve and the (freshly elected) Kennedy Administration in the early 1960s, to keep short-term rates unchanged and lower long-term rates (effectively “twisting” the yield curve). The US was in a recession at the time, but Europe was not and thus had higher interest rates. The equivalent of hedge funds back then (under the Bretton Woods system) would convert US dollars to gold and invest the proceeds in higher-yielding assets overseas. Billions of dollars worth of gold was flowing into Europe each year. (Incidentally, President Kennedy announced Operation Twist on February 2, 1961, which basically corresponded to the business-cycle trough.)

The notion behind Operation Twist was that the government would encourage housing and business investment by lowering long-term rates, and at least not encourage gold outflows, by maintaining short-term rates. Mechanically, the Federal Reserve kept the Federal Funds rate steady while purchasing longer-term Treasuries. The Treasury reduced its issuance of longer-term debt and issued mostly short-term debt.

Let’s look at what Bill Gross had to say in the Financial Times:

“The front end of the curve has for all intents and purposes become inert and worst of all flat as opposed to steeply positive. Two-year yields are the same as overnight fund rates allowing for no incremental gain – a return that leveraged banks and lending institutions have based their income and expense budgets on. A bank can no longer borrow short and lend two years longer at a profit…

“By flooring maturities out to two years then, and perhaps longer as a result of maturity extension policies envisioned in a forthcoming Operation Twist later this month, the Fed may in effect lower the cost of capital, but destroy leverage and credit creation in the process. The further out the Fed moves the zero bound towards a system-wide average maturity of seven to eight years the more credit destruction occurs, to a US financial system that includes thousands of billions of dollars of repo and short-term financed-based lending that has provided the basis for financial institution prosperity.”

Bernanke made it clear in his infamous November 2002 “helicopter” speech that moving out the yield curve was in the Fed’s bag of tricks. By that, I mean they could do what Gross fears. They put a ceiling on the price of (say) the 10-year bond at 1.5%, in hopes of bringing banking and mortgage rates down, thereby theoretically spurring the economy and boosting the housing market. And in a normal business-cycle recession such a policy might work. But in a normal business cycle, it has never been necessary.

This next Fed meeting will likely produce a very interesting statement at its conclusion. If the Fed does nothing, you do not want to be long. If they go “all in” you do not want to be short.

Bernanke clearly believes that stock prices are a tool of monetary policy. He goes so far as to say that the Fed should not try to “prick” what might be perceived as a bubble, because “… attempts to bring down stock prices by a significant amount using monetary policy are likely to have highly deleterious and unwanted side effects on the broader economy.”

But a rising market is evidently not a problem. He uses all sorts of statistical research that shows a seemingly clear correlation between stock prices (risk assets) and monetary policy. I would argue that correlation is not causation. The data is basically over the last 60 years and does not include a balance-sheet/deleveraging recession like we are now in. The underlying economic tectonic plates have shifted. Ask Japan how much an easy monetary policy helps stock prices.

There has been some chatter that the Fed move to coordinate with the ECB will provoke Tea Party criticism, not to mention Governor Perry’s. I hope not, as that would be foolish, and show that whoever takes that tack is not thinking seriously or simply does not get the broader macro environment. To think that policy would be any different under a Republican means you are not paying attention. This should not be that controversial.

But if the Fed does indeed pursue an Operation Twist or “moves out the yield curve,” then vehement criticism is more than warranted. I will be shouting myself!

Have a great week! Trade carefully out there!

Gold : SURE DIE !

First let’s have a look at the gold price in 2006:

Now let’s have a look at the gold price in 2011:

Now let’s place the two charts next to each other, to see the similarities:

If this isn’t clear enough, have a look at the chart below, which lays one chart on top of the other:

The patterns were nearly identical -- and so was the huge drop that followed.

We can learn something from the past.

Don't catch the falling knife !

A Bigger Correction Underway?

To quote Charles Dickens, this week was the best of times, it was the worst of times.

This week Quaddafi was finally cast out, Dominique Strauss Kahn was cleared, Japan's credit rating was cut, Washington quaked and everyone waited with bated breath for the words from Jackson Hole, WY.

Oh, and I forgot to mention, gold skyrocketed to $1900 at the beginning of the week and then plunged in one of its worst days Wednesday when gold prices tumbled a whopping $95.80, or 5.1%, to settle at $1,765.50 an ounce -- the lowest level in a week. To keep things in proportion, gold started the year just above $1,400 an ounce.

Also this week SPDR Gold Trust's(GLD) total assets surpassed that of the SPDR S&P 500 ETF (SPY), making GLD the largest exchange-traded fund in the world for the first time. But also to keep things in proportion, the assets of the Gold Trust ETF are still trivial compared to the trillions held in equities and bonds. Four times as much money is held in Apple (AAPL) stock alone. Naturally, there are many other ways to own gold, but in general, this means that not that many people own gold despite all the hoopla.

The Federal Reserve is holding its annual symposium in Jackson Hole, WY, this weekend and all eyes are on Federal Reserve Chairman Ben Bernanke when he addresses the group today. It was at last year’s meeting that Bernanke hinted the Fed would start another round of asset purchases to stimulate the economy and about three months later the Fed announced the $600 billion bonds purchases, later dubbed QEII. And that, folks, was one of the contributing factors for gold hitting $1900 this week.

But it doesn’t really matter to gold what Ben Bernanke will say. If there's QE3, gold should go up in the long term. And if there's no QE3, gold still will go up. The higher inflation and weaker dollar that QE3 would likely cause would be positive for gold, which is known as an inflation hedge. No QE3 would mean a zero-rate policy may continue for more than a while (even longer than they already pledged), which is an ideal environment for gold to grow. A new round of quantitative easing is not likely to be met with approval from the emerging world, particularly China, or other large holders of U.S. Treasuries and U.S. dollar-denominated assets.

No matter what is said in Jackson Hole, there is no doubt that the US economy is in a deep hole. The uncertainty surrounding the U.S. deficit-reduction debate has fueled concern about a U.S. default, potential destruction of the U.S. dollar along with fears of a global recession or depression.

Those that argue that gold is overvalued from a long-term perspective are not looking at the right numbers. They ought to be looking at Europe's banks and at the amount of short-term obligations that are sitting on the U.S. Treasury's books.

The S & P chart see a local top signal from analysis of both volume and Fibonacci retracement levels. In addition, there are two reliable (with proven track record – as seen above) support and resistance factors in play: the 50-week and 200-week moving averages.

The SPY ETF just touched the 200-week moving average and a rally from here is likely. At this point we do not expect the 2008 plunge to repeat. However, even if that is going to be the case, then we would still likely see prices move higher -- perhaps towards the 50-week moving average before the decline continues.

In the S&P 500 Index chart this week, we have seen a decline to and a possible bottom at the 38.2% Fibonacci retracement level. This has been confirmed by the RSI indicator. Although we could still see a sideways trading pattern, the size and rapidness of the recent decline leads us to believe a bigger rally from here is more likely than not in the coming weeks.

Lower gold prices would likely be followed by lower silver prices, not because of the general stock market rally, but because of gold’s price decline. This would likely impact gold and silver mining stocks as well. Overall, the precious metals – stocks link has changed very little recently from a correlation perspective.

Although stocks could move either way from here, it is more likely that higher prices will be seen in the short term. The direction of the market beyond this time frame is uncertain. Based on the persistent negative correlation between the stock market and precious metals the expected short-term rally in stocks would likely have a negative impact on gold and silver.

Georgy-Boy Is Always Right?

On Wednesday August 10 the Chicago Mercantile Exchange ("CME") came out with an announcement that it would be raising margin rates on the purchase of futures contracts on gold. It reported that this was an effort on its part to cool off the price of gold, which has enjoyed a parabolic run since August 1. It also said that there would be more rate hikes to protect gold from becoming a bubble.

When I read this I laughed at the arrogance of the CME. There is only one reason that it wants to stop gold’s parabolic run: It simply doesn't have enough gold to fulfill the futures contracts that it has already sold. Let’s not forget that one futures contract is sold in lots of 5,000 ounces. That means if we use a proxy price of $2,000 an ounce, to make the math simple, we are talking about $10 million for one contract. Add to that the fact that the CME gets a fee of $50 an ounce above the spot price. So for every contract sold, it earns $250,000. Delivery and shipping are the buyers' concerns.

Let us also not forget that last April the CME raised the margin rate on silver not once but five times to get silver to finally capitulate. The fact is that the CME does not have the physical gold to satisfy the futures contracts that have already been sold. Do you really think this will play out differently than it did with silver last April? Some may call it a bubble, but I do not agree.

George Soros, the hedge fund investor who called gold the ultimate bubble, has divested his portfolio of nearly his entire investment in gold, inciting many to fear that the price will very soon plummet, devaluing the specie-heavy portfolios of millions of investors. Whether you agree with him or not, attention must be paid to his movements. It can be very expensive to ignore the predictions of Soros.

For example, on September 16, 1992 (a date subsequently known as “Black Wednesday”), one of Soros' investment funds sold short more than $10 billion worth of pounds sterling, profiting from the British government's reluctance to adjust its interest rates to levels comparable to those of other European Exchange Rate Mechanism countries. Defiantly, the UK withdrew from the European Exchange Rate Mechanism, triggering an unsettling devaluation of the pound. Not everyone was harmed by this plummet, however. George Soros earned over $1 billion in the ordeal. Consequently, he was described by the media as the man who broke the Bank of England. In 1997, the UK Treasury estimated the cost of Black Wednesday at 3.4 billion pounds. This latest move to take a position against gold may have similar repercussions around the globe.

Soros, the Hungarian-born financier, made the move to cut his holdings of gold only in the first quarter of 2011. As with most things this King Midas touches, the price per ounce of gold had skyrocketed during the period of his investment in it. While at the beginning of last year gold was trading at $1,100 an ounce, the trading price in 2011 has risen to as much $1,800.

The exact date of the dramatic divestment by Soros is unknown. It is known that the majority of those holdings are managed through the Soros Fund Management Company. Filings to the Securities and Exchange Commission (SEC), the American regulator, showed that he had sold 99% of his holding in the SPDR Gold Trust (GLD), an exchange-traded fund backed by gold bullion, by the end of March. The New York-based fund sold its entire holding in GLD, but Mr. Soros bought shares in two mining companies, Freeport-McMoRan Copper & Gold(FCX) and Goldcorp (GG).

Despite the potential for a devastating global impact of such a move by a highly influential individual, there are those on Wall Street praising the insight of Soros. Historically, as the precious metals rally ends, you will get transition toward related equities. Indeed, the gold mining stocks have lagged the underlying asset as people would rather hold gold and silver above the ground rather than these metals that are still in the ground.

As I write, it looks like Mr. Soros did not get this one right, and there are those not entirely convinced of his wisdom.

Filings to the SEC showed that Paulson & Co, the US hedge fund run by John Paulson, left its holding in GLD unchanged. It was reported in Bloomberg online that Hal Lehr, a commodity trader at Deutsche Bank, said he remains bullish on gold despite its current levels and believed it could reach $2,000 an ounce by year’s end. The report went on to say that gold ETF holdings fell by 3.3 percent in the first quarter of 2011, and there are reliable indications that some of that investment was used to purchase physical gold bullion.

As if there's not enough uncertainty, a worldwide devaluation of gold could create a ripple of financial insecurity. There can be no doubt that gold is viewed by a majority of the world as a very safe and trustworthy investment -- one that only increases in value. This sort of reasoned speculation has undoubtedly fueled the bullish ballooning of the price per ounce of the metal.

If the actions of Soros and other global power brokers have the effect of devaluing gold, then the legitimacy and appeal of the call of many to return to a gold standard for the value of paper currency or to abolish the Federal Reserve and other similar central banks around the world, will be similarly devalued.

Once the worth of both gold and paper currency is wiped out by the conspiring of financiers, globalists, multinational corporations, central bank boards, and other like-minded and influential moneyed interests, there will be nowhere to turn for an object of value. This complete obliteration of precious metals and paper currencies will leave those who create such catastrophes as the sole site of economic refuge for those cast headlong into the storm of boom and bust cycles and the devastation that comes in their wake.

One of the most toxic elements present in this pool of bitter water is a worthless money supply. The Federal Reserve creates this non-potable problem by engaging in a practice known euphemistically as "quantitative easing." It is a policy that plain-speaking people would call "printing worthless money."

There is no governor on the engine of the Federal Reserve's printing press, and the speed with which it can crank out reams of worthless paper money is dizzying. However, unlike paper money, gold cannot be manufactured and it is of finite quantity. While this bodes well for the eventual rebound of the price of gold (assuming that it soon begins to descend), there can be little expectation that those who benefit most from a world marketplace dependent on dollars and pounds will allow gold to supplant these currencies as the coin of the realm. From their point of view, access to that resource must be restricted and dependence on printed money must be perpetuated.

The current debt crisis in Europe is an example of how the price of gold can benefit from a currency’s shortfall. The millions upon millions of dollars owed by Greece, Ireland, Portugal, and others in the eurozone devalues paper currency while artificially (perhaps) propelling the price of gold into the stratosphere.

That said, there is a good chance that any effort to sell off holdings in the precious metal by George Soros and others may convince others to dump their own investments in gold rather than run the risk of being found on the outside of the trade looking in.

In fact I’m sure this is exactly what that cagey Soros is betting on.

Double Dip Or Another Great Depression!

“I did a careful study of the action of the great post-crash rally that occurred during late 1929 into early 1930. The rally was a beauty, stirring up more excitement and volume than did the advances in 1928 to the 1929 top.” - Richard Russell.

You can imagine that market participants during the spectacular advance into April 1930 were convinced that it was resurgence, a revival of the powerful 1921-1929 bull market. Speculators clamored back into the market, thinking it was great opportunity -- they weren’t going to be left standing at the station as the train took off for another great decade of gains.

Truth be told, records shows the economy had actually topped out in late 1928, fading throughout 1929. The market was running on empty. The economy continued to deteriorate as the market roared ahead from late 1929 into April 1930. Just like the market roared ahead into April 2011 as the economy deteriorated?

But then like a bolt out of the blue, the market and the economy came back into correlation and stocks turned down decisively. Just like they turned down decisively in July 2011 as Rosy Scenario divorced Mr. Economy and the fundamental figures could no longer be painted pretty.
With the ending of QE2, the tape could no longer be painted.

With the debt ceiling debate raging, perhaps the funds were no longer easily available for the Plunge Protection Team. Isn’t it special that one day after a debt deal is reached, and funds can be found for The Working Group without the scrutiny of political subterfuge that stocks stage a big reversal? Just happenstance I’m sure. My daddy taught me cynicism well.

Who knows if a double dip will really turn into the Greater Depression. But what is remarkable is that back then the dollar was strong, the US was a creditor nation. Now the dollar and US debt debacle are laughing stocks. Yet most of the jaw jackals, pundits, and financial personalities are sharpening their pencils and ‘calling’ the most likely objective of where the pullback will end and when the next great buying opportunity will arrive.

What if they are all wrong? What if the leg down into the March 2009 low was a big Wave 1, the advance into May 2011 was a big Wave 2, and the stiletto-like angle of attack to the downside since July 2011 is the beginning of a menacing Wave 3?

Few if any are calling for a decline to below 666 S&P. Those that entertain the idea are boys that cry wolf. They are taken serious by few, the financially frail -- those who have fought with and struggled against monster moves in leading names like hyperventilating Faye Rays in the grip of King Kong.

What if?

What if the guns of QE2 are unholstered and the market walks up to Ben Bernanke like Dirty Harry:“I know what you’re thinking. Did he fire six shots or only five? Well, to tell you the truth, in all this excitement I kind of lost track myself. But being as this is a .44 Magnum, the most powerful handgun in the world, and would blow your head clean off, you’ve got to ask yourself one question: do I feel lucky? Well, do ya, punk?”

You feelin’ lucky, Ben?

What if the 4-year or Fibonacci fractal of 1440 degrees from the big top in July 2007 is exerting its influence. What if the pattern of the big spread double bottoms in 2007 that led to a crash when they were broken is repeating here and now with the big double bottoms in 2011 having just broken? Of course, just as the sign of the Bear was flashed in 2008 on the double bottom break, the market backtested the breakdown point. That’s on the monthly charts and the market slid substantially before that backtest played out into May 2008. Be that as it may, a mini-fractal of that pattern could play out now with the S&P backtesting 1260/1264 or even 1280, satisfying a backtest of the broken angle up from March 2009.

What if?

In April 1930, market participants believed the crash was a one-off. They assumed lightening doesn’t strike twice. Sound familiar?

Conclusion:

Tuesday was 90 calendar days from a high which often defines a turning point. As it turned out, Tuesday proved to be a closing low -- for this particular losing streak anyway. On Wednesday the market opened up, implying there was more work to do on the downside. The market proceeded to roll over on top of Tuesday’s flushout with the S&P finally arresting momentum at 1234.

The range from the 1011 low in July 2010 to the 1371 high in May 2011 was 360 points. A Fibonacci .382 retrace of the range is 1234. The closing low so far occurred on August 2nd, 90 days from May 2nd.

However, since 1264 (270 degrees down from high) was broken with authority, the S&P should satisfy a 360 degree move down from the high which equates to 1227. This would accomplish a full backtest of last November’s high (that occurred on November 5th and 1227 ties to November 5th, so these square outs of time and price are worth paying attention to).

Higher USD, End Of QE2 ?

Of late, there's a lot to of discussion about -- Is Quantitative Easing the Last Gasp Bubble?

In any event, and back to the greenback, take a look at the higher low (bullish) in the chart above (below those luscious legs), as well as the fledgling "W" pattern (that will confirm with a move above DXY 76), whichwould also suggest higher prices for dollar proxies. If history repeats, or even rhymes, this should serve as an asset-class headwind.

While I have you, let me say this: I've been asked a lot about what the end of QE2 might mean for the markets. My response is that the purpose of this initiative was to reflate markets such that corporate America could roll their debt and issue stock -- and that's been largely achieved (lets leave the other sides of the debt sandwich -- sovereigns above, consumers below -- out of the conversation for the time being).

That being said, I do believe that the second derivative of the end of QE2 will be a higher dollar, as everyone looks for the light at the end of the tunnel (regardless of whether of not it's affixed to the front of a train). Given the leverage in the system and the correlation of (carry trade) strategies, I do think this will matter, and that's why I've taken so much time to draw your attention to it.