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Free markets don't like quotas

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The U.S. dollar suffered one of its biggest daily declines with the U.S. Dollar Index (dx00y) 90.28 -1.36% falling to a new 5- year low.

There were probably more rumors or scenario's for the dollar's decline than there were buyers for the dollar, but if I were one scenario for the dollar's steep declines in today's session, it may well be the U.S. government's announced plans to curb Chinese textile imports, which ups the ante in a simmering trade war between the two countries.

In what has slowly become a game of chess between China and the U.S. where the Chinese government said weeks ago that it would only approve government spending in 2004 on software products designed outside China under special circumstances, the U.S. has recently answered those policies by limiting imported steel and now textiles.

The Commerce Department said it planned to set quotas limiting growth in Chinese textile imports to 7.5% a year.

The move follows a sharp increase in shipments of Chinese clothing products over the past 14 months.

U.S. Commerce Undersecretary Grant Aldonas said the surge in imports had been helped by government subsidies. "It's not just a question of a dramatic surge, but a heavily state-owned industry that's subsidized by state-owned banks," he said.

The decision underlines Washington's determination to bring its spiraling trade deficit with China, which is forecasted to reach $120 billion this year, back under control.

The U.S. government, and most likely the Bush administration ahead of an election year, fears the flood of Chinese imports is squeezing domestic manufacturers, forcing them to shed jobs. While many Republicans may blame the Clinton administration for free trade policies implemented years ago, the White House has been spurred by U.S. Industry lobby group to pressure Beijing to lift currency controls which keep the Chinese yuan artificially low against the dollar.

But China has held firm, rebuffing persistent calls for it to alter its currency regime, as China has its own interests for a healthy economy at stake, where exports of manufactured goods are critical for the country's growth and job creation.

US textile industry associations, which claim that 300,000 US textile jobs have disappeared since 2001, welcomed the prospect of import quotas.

"Today's decision sends a strong signal to China that they should take immediate steps to cease their attempts to dominate international trade in textiles and apparel," said Cass Johnson, interim president of the American Textile Manufacturers Institute.

The saber rattling by the U.S. government sent jitters through the equity markets as well as the dollar as the session progressed, where modest gains on the heels of upbeat earnings and raised guidance from Home Depot (NYSE:HD) $34.95 -1.46% vanished by session's end.

In what has been seen as a "global economy" where markets should trade freely, currency manipulations and growing attempts to create trade barriers where quotas are placed on products, certainly appears to have investors moving to the sidelines.

Late this afternoon, a look of disgust could be seen on the faces of Larry Kudlow and James Cramer, hosts of CNBC's Kudlow and Cramer, which in my opinion was different look than has been seen in recent months from two of bigger bulls on Wall Street.

I can't remember Mr. Cramer's exact words, but they were pointed toward the dollar's decline and trade tariffs and quotas when he said foreign investors hate the thought of trade barriers, and when they sense it, they "sell everything."

For many traders, the U.S. dollar is the starting point for how U.S. assets are viewed by foreign investors, and today's rather sharp drop in the dollar, was a warning signal we didn't want to ignore in today's trade.

Gold was once again the major benefactor in a weaker dollar trade where December Gold futures (gc03z) $397.60 +1.66% gained $6.10 and currently trade higher still at $399.00 as Wednesday's session is underway. The equity side of the trade saw the AMEX Gold Bugs Index ($HUI.X) 235.22 +6.02% find another all time high, and now take out on a firmer trade, its point and figure chart bullish vertical count of 226.00. With the $HUI.X breaking to new highs and exceeding its bullish vertical count, I'm going to use the fitted retracement technique to establish further upside bullish target levels.

AMEX Gold Bugs Index ($HUI.X) - Daily Intervals

As noted in prior commentary, bullish vertical count may be achieved, and may not be achieved. Often times they are achieved and even exceeded like we see taking place in the $HUI.X. It now becomes a more difficult task to assess risk/reward, but I've tried to use the "fitted retracement technique" of taking retracement from a relative low, and then trying to fit the retracement bracket so that it makes sense with how the $HUI.X has traded in recent sessions. I wanted to at least try and honor the bullish vertical count of 226.00 in the newly added PINK retracement, and I do like the way the 19.1% retracement of 201.57 and 38.2% retracement at 216.67 may have been viewed as levels of pullback support the past two weeks.

Gold bugs may "know" that they look for further dollar weakness to extend the impressive rally in gold stocks, so lets take a look at our U.S. Dollar Index (dx00y) where we track this index in our WEEKLY/MONTHLY pivot analysis matrix.

U.S. Dollar Index (dx00y) Chart - Daily Intervals

The $dx00y shows the dollar breaking SHARPLY to new lows and below a support zone. Just as it can be difficult to tell where a stock can run to on the upside when extreme buying is present, its equally difficult to tell where a level of support is when a stock or security is breaking to multi-year lows.

The current bearish vertical count for the U.S. Dollar Index (dx00y) using a 0.50-point box scale is 83.50, and the above chart using WEEKLY/MONTHLY pivot analysis retracement gives a near-term zone of support at 89.80-89.94.

A trader in gold stocks may equate such a decline to 89.90 in the U.S. Dollar Index (dx00y), with the AMEX Gold Bugs Index ($HUI.X) at 250.42.

Is a trade war between the U.S. and China the reason for today's weakness in equities? To tell the truth, I wasn't aware of today's news of textile import curbs being potentially responsible for the dollars steep slide, but thought it might be prudent to initiate a bearish trade in the broader S&P 500 Index (SPX.X) 1,034.15 -0.9% in today's Market Monitor, and 01:00 PM EST update, when the SPX was trading at unchanged levels.

Let's quickly take a look at the pivot analysis matrix where today's trade did see the NDX 1,364.70 -2.08%, QQQ $33.88 -2.3% and BIX 325.51 -1.11% see trade at their WEEKLY S2s for the first time this week. In the MONTHLY Pivot Matrix, the SPY $103.82 -1.05% traded its MONTHLY Pivot for the first time this month.

Tomorrow morning I will be closely monitoring the U.S. Dollar Index (dx00y) after it traded its WEEKLY S1 for the first time this week and foreign market's response to today's dollar slide.

While a weaker dollar is seen as beneficial for U.S.-based company's that compete against other foreign products abroad, that benefit could be eliminated if a global trade war is in the making, where quotas and tariffs are placed on imported products by various countries.

Pivot Analysis Matrix -

Tonight we see some more formidable and correlative resistance showing up at the WEEKLY Pivots and DAILY R2's for tomorrow. After profiling a bearish trade in the SPX with a stop above 1,055, I think that stop may be well placed based on what I see in the matrix at this point.

It is notable that the S&P 100 Index (OEX.X) 512.22 -0.77%, which traded its WEEKLY S2 yesterday, did not see a trade at that level today (session low was 512.09, so there is obviously some type of formidable buying still at that level) and may certainly hint that institutional computers were going to wait for a reaction out of foreign markets in Wednesday's trade.

In last night's Index Trader Wrap, I had not planned on looking for a bearish trade in today's session, unless we saw a bounce further higher to the WEEKLY R1s. However, I was also not looking for the dollar to get hit like it did, and felt it was worth the risk to take a bearish trade this afternoon, just in case foreign markets found substantial selling before U.S. markets open for trading tomorrow.

As I type, I've just updated tonight's Market Monitor and note Japan's Nikkei-225 ($NIKK) 9,714.06 -1.85% opened lower and in early trade has seen a session low of 9,691.19 and session high of 9,804.70. As it relates to today's 01:00 PM EST intra-day update, this action would have the $NIKK's point and figure chart unchanged from yesterday's trade.

In the above MONTHLY Pivot matrix, I've PINK squared the MONTHLY S1s in the major indices, which aside from the BIX.X (mostly regional banks) may be vulnerable to those levels should the WEEKLY R2s not hold support.

S&P 500 Index (SPX.X) Chart - Daily Interval

I would certainly consider a bearish trade in the SPX as being EARLY as the SPX still holds above a key support level at the MONTHLY Pivot (1,033.49) and WEEKLY S2 (1,032.30), but the dollar's weakness had me wondering what type of lower trade might be found overnight in foreign markets. It is difficult, if not impossible to forecast price action based on oscillators, but with MACD still trending lower towards zero, a break below SPX 1,032 may have the SPX falling quickly to 1,020.

Today's trade saw a net loss of 3 stocks to point and figure sell signals in the S&P 500 Bullish % ($BPSPX). This has the bullish % slipping to 79.2%, but still reading "bull confirmed" status.

S&P 100 Index (OEX.X) Chart - Daily Intervals

While the broader SPX may benefit from correlative MONTHLY Pivot and WEEKLY S2 support, the OEX looks to have WEEKLY S2 as the only level of support standing between tonight's close and an upward trend from the August relative low, which at this point has not yet been tested. If the current upward trend and correlative MONTHLY 61.8% retracement are violated to the downside, then the OEX further vulnerable to 504, where I would be alert to a rebound, but would then view the 521 area as becoming more formidable resistance as an equal high of 525 was found, and a lower low if 505.98 were also violated.

Today's trade saw no net change in the S&P 100 Bullish % ($BPOEX). Still "bull correction" status at 79%.

NASDAQ-100 Tracking Stock (AMEX:QQQ) - Daily Intervals

It has been a general observation that technology stocks along with Asian markets had been leading the bullish advance since March. Today's violation of the WEEKLY S2 and close below the $34.13 level in the QQQ is the lowest close in the QQQ since late September. Near-term support is viewed as $33.67, but the more volatile QQQ may be further vulnerable to its MONTHLY S1 of $33.11, where I would fully expect some type of bounce back higher.

Today's trade saw a net loss of 2 stocks to point and figure sell signals in the NASDAQ-100 Bullish % ($BPNDX) and has this bullish % falling to 68%. Still "bear confirmed."

Dow Industrials (INDU) Chart - Daily Interval

Despite the weaker dollar, 25 components traded lower compared to 5 gainers. While INDU looks near-term oversold, INDU also looks further vulnerable to 9,500 if 9,600 violated tomorrow.

Today's trade saw no net change in the very narrow Dow Industrials Bullish % ($BPINDU). Still "bull correction" status at 80%.

Jeff Bailey

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