Which Way Wednesday - Fed Edition

[fed funds rate target] No matter what happens today, it can all change at 2:15.

We get a Fed Rate decision but there’s nowhere for them to go, so the question is going to be: "What else can you give us?" We expect to hear some language that points to quantitative easing, something that will be more likely if we get a tame CPI report this morning. Our friends at GS are chomping at the bit for more and Goldman economist (one of those guys they poll to get totally wrong predictions about everything) Jan Hatzius estimates (oh no!) that "The Fed needs to slash the equivalent of eight more percentage points from the fed funds rate by 2010 to beat deflation."

Wow, -8% or Goldman throws a temper tantrum – that does not bode well for today’s finish… Obviously the Fed can’t cut below zero (they pay you to borrow money) but they can flood the economy with money until it is literally bursting at the seems in the banks at 0%, making it too worth their while to lend it to you for 3-5% to turn it down. This is, of course, ridiculously inflationary because once you increase the money supply like that it’s very hard to put the genie back in the bottle. We already picked up gold futures at $910 (very tight stops) in member chat, just in case, but we also shorted oil at $50 this morning – so it’s one of those days. Oil shorts stop around $49 (we use trailing stops based on our 5% rule) and we’ll see what happens around inventories but I’d love to get a chance to short them again ahead of 10:30 as we are likely to have a pretty good build on low consumer demand that will crush oil later (another thing that can take down the market). Selling USO $29 calls for $1 with a stop at $1.25 (hoping they expire worthless) is one way to play this.

We had a totally fantastic day yesterday but that would be obvious to anyone who read the morning post, where I said: "Hopefully we can test our bottoms and then break through our tops but things rarely work out that perfectly." Well, this turned out to be one of those rare occasions as the market was like a trained seal, dropping right to our buy points where at 9:45 I sent out an alert to members saying:

"Nice flush to start the morning, let’s see if it sticks. 7,150 is our buy-in on the Dow and 748 on S&P, we’re testing both right here. NYSE 4,620 is a bit away and Nas 1,430 is already blown so that’s going to be our bullish breakup. RUT is just over the 380 drop zone so let’s just make sure we don’t blow those levels but buying right here with stops on those limits is a great way to go on DIA, SPY, IWM, QQQQ etc, which all have very low premiums and give you great leverage. "

My trade ideas for members at the time were DIA $68 calls at $4.10, which finished the day at $6.20; SPY $72 calls at $3.90, which ran up to $6.45 and IWM $36 calls at $2.87, which finished at $4.60. We also blew out yet another set of DIA put covers but we flipped bearish at the end of the day as we came so close to our levels (the ones I set on Monday morning) that Jordan pointed out: "Your levels: Dow 7,404, S&P 775, Nas 1,466, NYSE 4,839 and RUT 402 My sceen is showing:
Dow 7,404, S&P 777, Nas 1,462, NYSE 4,868 and RUT 404."

I did call a top in our 1:26 alert to members saying: "Good time to take profits on those index calls if you are still in them. It’s the volume that’s bothering me mostly….Maybe I’m being grouch too early but, like yesterday, it was a nice run to take profit into." It turns out I was way too grouchy as Dow did pull back from 7,315 to 7,275 about an hour later but, at 2:28, I noted it was not a very exciting sell-off and 18 minutes later MrMocha went short and guaranteed us a rally which was, once again, a foolproof indicator! Nonetheless, it seemed overdone and we added DIA $75 puts into the close, a nice way to protect some wild gains on the long side – just in case…

Our primary target is Dow 7,450 and, as I’ve been saying all week, breaking that mark is critical. That correlates to 788 on the S&P, 1,475 on the Nasdaq, 4,950 on the NYSE and 425 on the Russell. Failure to break over those levels this week means we are still in a bearish downtrend. It would take a real catalyst to punch us through and perhaps the Fed will give it to us this afternoon. On the whole, it’s really a lot to ask from a 2 or 3 paragraph statement!

To the downside, we’ve got yesterday’s highs followed by the same danger zone as we set in the morning (effectively, yesterday’s lows) and it is possible we are driven back there ahead of the Fed in a major shake-out prior to whatever they say (doesn’t matter really) giving the funds an excuse to BUYBUYBUY on the statement. "Which Way Wednesday" indeed! We’re really going to have to keep on our toes for this one but we can’t get emotional, we need to let the levels be our guide and take advantage of the plays that present themselves.

Asia held up well this morning but the World Bank cut their growth outlook for China to 6.5%, well below China’s own 8% forecast. I think if the premise of the global economy requires ANY economy to grow at 8% per year without pause, we are eventually screwed anyway so we may as well get it out of the way now. This pronouncement came after the Asian markets closed and the Hang seng closed up 1.7% at 13,091, the Shanghai was up half a point at 256 and the Nikkei was flat, unable to hold 8,000 and finishing at 7,972 as the dollar refuses to break 100 Yen no matter how many of them Japan tries to buy. Less Yen to the Dollar means less Toyotas per dollar to export and that is killing Japan’s export-heavy economy as they struggle under the burden of being the World’s strongest currency, up over 25% against the Euro since last year and up 10% against the dollar.

The BOJ kept rates at 0.1% but there is no more carry trade as the US and Europe are not far behind and the high value of the Yen means if you convert 98 Yen to a Dollar and get 5% interest on the dollar ($1.05) but then Japan finally succeeds in driving the Yen down to 110 per $1, you still lose 5%. That means the mighty carry trade, which I had long pointed out as one of the root causes of the commodity bubble (including housing as they invested heavily in MBSs), is pretty much dead at the moment except for those who wish to borrow Yen at 0.1% and invest in Rubles at 12% but how many of us are that crazy?

[French Press Sarkozy To Tax the Rich] Europe is trading down about half a point (8:30) but that does not tell the story as they opened up nearly 2% this morning so major deterioration in their outlook. One factor was a poor British jobs report, another is the Baltic Dry Index breaking below 2,000 again – an indicator we follow very closely and, of course, the French are striking. This time it’s the labor unions, who are planning a nationwide strike on Thursday unless the government taxes the rich more. France’s rich already pay their fair share at 49.8%, much higher than the UK’s 41% rate. The problem with being the highest taxer in Europe is there’s no reason for wealthy people to stay in the country as the entire EU has a single passport. "My goal is to convince people who have money to come to France and invest in our factories and companies, not to push them out." France’s President Sarkozy said.

This is just one of the many, many things we were worried would cause a pullback as we went up too far, too fast this week. It’s what I call an "air pocket" that forms below the gains when they are not built on volume and what is done quickly can just as quickly be undone and that’s what caused us to close yesterday in our most bearish posture in quite some time. We would be thrilled to be wrong – we still have plenty of long positions to ride up but we’re not going to be emotional about things and we’re going to keep a shart eye on our levels. Oil failing $47.50 could trail a sell-off in the energy sector, which is up 15% since March 9th without a serious pullback so $43.50 is the line in the sand on the XLE and failure to take that could send them back to $41.50 and will make a nice short play into the energy report so tune in later for that one!

Going short on the Dow overnight allowed us to let our long plays run as we’re still hoping for a test of 7,450 (only 55 points away) and if we break through there we are happy to flip bullish, using 7,540 and 7,400 as stops along the way. If we see good volume action right at the open we may cash out or cover the puts but we’re going to want to have something on for the big test so let’s not get too ahead of ourselves. Best news of the morning is IBM reported to be buying JAVA for $6.6Bn, a 60% premium. This is nice but it’s just a preliminary talk, not a purchase and $6.6Bn is pocket change to IBM and Sun is a uniquely good fit for IBM so this is not really a big bottom signal for tech the way PFE and MRKs acquisitions set a real bottom in the health sector.