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Market Wrap

Oil Breaks Above $86; Stocks Retreat

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Crude Oil at the NYMEX broke above the $86/barrel mark today as supply concerns and tensions in the Middle East had NYMEX Crude Oil futures (cl07x) settling up $2.44, or 2.92% at $86.13.

The latest surge in oil prices was fueled with a one-two-punch after the Organization of Petroleum Countries (OPEC) said crude oil production by countries that are not OPEC members is probably falling despite rising demand.

Exacerbating oil's rise for a fifth-straight session was the Turkish government threatening to invade northern Iraq in an attempt to chase rebel fighters from the Kurdistan Workers' Party. The military tensions on the Turkish border are a potential flash point as a major pipeline that links Iraq's northern fields to Turkey is vulnerable to disruptions from bombings.

In a recent report, energy analysts at Lehman Brothers listed an unexpected growth in supplies from Iraq as one potential reason oil prices might fall.

Outside of energy and mining sectors, the Biotechnology Index (BTK.X) 849.83 +0.55% held onto a modest gain.

SShares of Biogen IDEC (NASDAQ:BIIB) $82.51 +18.83% surged as high as $84.75 in early morning trade after the company's board said it had authorized management to explore the sale of the company after drawing interest from potential buyers. Shares of Biogen IDEC churned a hefty 30.7 million shares, roughly 7-times its average daily volume.

Shares of Medtronic (NYSE:MDT) $50.00 -11.23% led the list of decliners for the S&P 500, after it suspended sales of four models of defibrillation leads because of a risk they could break.

Dow component and S&P 100 heavyweight Citigroup (NYSE:C) $46.24 -3.40% traded down $1.63 after the banking behemoth said third-quarter earnings declined to $2.38 billion from $5.51 billion a year earlier. While bottom line results were slightly better than analysts had forecast, the company warned that its third-quarter earnings would decline by 60%.

Citigroup's CFO Gary Crittenden cautioned investors that mortgage delinquencies have accelerated and said consumer credit market conditions "will continue to deteriorate."

I would appear that many market participants were looking for an "all clear, it's over," from Citigroup.

While I (Jeff Bailey) wouldn't read Citigroup's message as anything close to an "it is over," I did note today that the Pacholder High Yield (PHF) $9.20 +0.54% continues to show some sign of firming in my U.S. Market Watch (above). A recent Net Asset Value (NAV) computation from this closed-end "junk bond" fund on 10/11/2007 was $9.89/share, its highest NAV benchmark since 07/19/2007 when the fund reported a $10.01 NAV.

It should be noted that closed-end funds can trade above, or below their actual NAV. A closed-end funds NAV is derived from their actual holdings, which may not necessarily be reflected in the securities market price. On Thursday, 10/11/2007, Pacholder High Yield (PHF) closed at $9.15, a 7.48% discount to its NAV.

On August 16, when PHF's shares fell to a session low of $7.54 and closed $7.73, the fund reported a NAV of $9.33.

I do think we should listen to the world's largest banker's comments, but if PHF is any indication of the higher risk junk bond credit markets, we are seeing some firming and renewed liquidity.

Homebuilders as depicted by the Dow Jones U.S. Home Construction Index (DJUSHB) 365.93 -3.69% paced today's sector weakness and broke back under a trying-to-round-higher shorter-term 21-day SMA at 378.14.

Ex-Fed Chairman Alan Greenspan may not have helped sentiment towards the homebuilders after he reiterated his thoughts that housing prices had yet to bottom.

As I type this evening's wrap, current Fed Chairman Ben Bernanke has wrapped up his speech to the Economic Club of New York.

Some of the headlines are the Dr. Bernanke is keeping his options open by standing ready to "act as needed" if recent credit-market and housing turmoil affects the economy, but is also being prepared to "reverse" last month's rate cut should inflation return.

Dr. Bernanke did say the rate cut in September has helped to reduce financial strains, it is still too early to tell whether the housing slump and credit crunch will translate into consumer and business spending, though Fed officials reported that their business contacts were growing more cautious.

A quick look at the December Thirty-day Fed Funds futures (CBOT:ff07z) 95.40, suggest that market participants now see a 60% probability of an additional 25 basis point rate cut by year's end. I establish this analysis by taking the base 100, then subtracting current trade of 95.40, or (100 - 95.40) = 4.60%. The current target for the Fed Funds rate is 4.75%.

As recently as September 25th, the December Fed Funds futures contract rose as high as 95.64, suggesting a Fed Funds target of (100 - 95.64) = 4.36%. That would have equated to a 55% probability of an additional 50-basis point rate cut.

December Fed Funds Futures (ff07z) - Daily Intervals

Just after Dr. Bernanke's speech, I see the ff07z down tick to 95.40. Not much of a reaction, but the above chart gives some observation of the "uncertainty" that market participants are dealing with.

Why would the ff07z rise all the way to 95.625 just over a week ago? I would have to think "worrisome economic slowing."

I like to simply "divide the ranges" of what would be 25 basis point moves with a retracement bracket, where each level is simply a "10% probability" level.

Again, the above chart suggests market participants see a 60% chance of an additional 25 basis point rate cut by year's end.

We did get some regional economic data today, which was stronger than forecasted. The NY Empire State Business Conditions Index came in at 28.8 for October, which was well above the 13.0 forecast and September's 14.7 reading.

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The diffusion index measures sentiment at manufacturing firms, with readings over zero indicating that more firms say conditions are better. The index is seen as an inconsistent predictor of national manufacturing activity.

A quick look inside the numbers showed the new orders index rose to 25.0 from 13.6, while the shipments index rebounded to 28.6 from 5.1.

The prices-paid index was roughly unchanged at 36.1, while the prices-received index rose to 15.1 from 11.7, the highest since January.

The employment index rose, and the average workweek index reached its highest level in more than a year.

Manufacturers expect business conditions to remain favorable; the future index increased to 50.6.

Market Internals (NYSE & NASDAQ) - Since 09/04/07

Market internals at both the NYSE and NASDAQ were weak today, and from the opening bell, decliners easily outnumbered advancers by roughly 3:1.

In Thursday's Market Monitor at OptionInvestor.com, I did suggest traders holding some of my bullish plays take some profits off the table, and cut one loss. With some profits booked, I think bulls will want to be set to reload and target new highs in the not-to-distant future.

By the end of the month for those that read last Monday's Market Wrap. I'm still sticking with an SPX target of 1,600 by Halloween.

Global Equity Benchmarks and Currencies -

While oil's rise may get some "bearish" broader market headlines here in the U.S. and perhaps European bourses, it wasn't the case on Monday in China.

Since last Monday, China's Hang Seng ($HSI) has surged an additional 6.37%.

Alan Greenspan also said today that the rising China stock markets are not sustainable for very long.

Stock's I like to follow, and trade from time-to-time with a "China flavor" had Baidu.com (NASDAQ:BIDU) $314.71 -2.56%, Sohu.com (NASDAQ:SOHU) $43.66 -1.66%, PetroChina (PTR) $236.44 +9.39% (currently PUT in Market Monitor from $181.42 on 10/08/07) and CNOOC Ltd. (NYSE:CEO) $188.26 +5.73% showing some very mixed results.

While I might tend to agree with Alan Greenspan's view on China, I've yet to see the market confirm those thoughts.

One "reason," I did encourage traders to book some profits on Thursday of last week, may also present itself in the above table.

On Thursday, Bundesbank president Axel Weber said if risks to price stability materialize it may no longer be possible for the European Central Bank (ECB) monetary policy to remain accommodative to help support the EU member states' economic growth.

In essence, I think Mr. Weber was saying "rate cut less likely."

The euro rebounded against the dollar (Euro/US$) and the euro was also strong against the Japanese yen (Euro/Yen).

London's FTSE-100 was up 1.59% week-over-week, and we'll remember that the UK is NOT on the euro currency. However, Germany's DAX and France's CAC-40 may reflect euro-currency economies.

In essence, monitor the DAX and CAC-40. It has been my analysis in recent weeks that market participants want to see the ECB take a less hawkish stance on rates.

Should the ECB continue to RAISE rates, that would likely STRENGTHEN their currency further and pressure the European block's exports to other countries.

Japan remains "most vulnerable" in my opinion should the US$ weaken vs. the yen (US$/Yen) and the euro weaken vs. the yen (Euro/Yen).

Excellent Work!

One of today's "best" technical comments and thought processes came from Ms. Louise Yamada. Perhaps some of you caught her comments regarding past history and the 10-year anniversary of "Black Monday" and October 2007.

In brief, Ms. Yamada made a case (for which she will continue to test) that the recent PRO-ACTIVE, instead of REACTIVE Fed policy may have averted another crash like that found 10-years ago to the day.

Dow Industrials (INDU) - Daily Intervals

There are some "spooky" similarities that may indeed have presented themselves just a couple of weeks ago when the Dow Industrials (INDU) fell sharply below its 200-day SMA on August 16th. The next day, the Fed cut the Discount Rate by 50 basis points to 5.75%.

Just recently, as the INDU hovered at its 50-day SMA, the Fed cut the Fed Funds target by 50 basis points, and once again lowered the Discount Rate 50 basis points to 5.25%.

Dow Industrials (INDU) "Black Monday" - Daily Intervals

It was 10-years ago today that the Dow Industrials plunged more than 500 points. Just one day after it had closed below its 200-day SMA.

Ms. Yamada sees some striking technical similarities, with one difference. A more PRO-ACTIVE Fed instead of a Fed that was more REACTIVE.

Here's what I see taking place in the S&P 500 Index (SPX.X) into October's option expiration, and into the end of the month. At Friday's close there was a pretty good BULLISH setup. Bulls NEEDED some type of pullback in order to set the trade up, they got some of it today.

S&P 500 Index (SPX) - 60-minute interval chart

In last Monday's Market Wrap I showed the SPX with the MONTHLY (dark purple) MONTHLY Pivot retracement. We're going to "zoom in" with a 60-minute interval chart here tonight.

The SPX closed a little stronger than I thought it might (ABOVE WEEKLY S1) so a Tuesday decline to WKLY S2 is questionable.

But that's the "lower risk" bull entry as it comes right near the previously broken to the upside downward trend, and some VERY heavy option open interest.

What a Pivot trader bull likes to see is a PULLBACK early in the week like we did get today, and then a "sling shot" move back higher with a Wednesday CLOSE at or near all that overlapping MONTHLY R1 and WEEKLY Pivot of 1,561.54.

The Dow Transports (TRAN) couldn't quite close the deal above their 150-day SMA last week and that could well have limited gains for the SPX.

Oil prices have weighed on the Transports, and once again, this Wednesday's EIA inventory figures could set the tone for the rest of the week, and perhaps the month.

The ability of the SPX to see strength ABOVE the MONTHLY R1 suggests institutional computers have limited supply of stock and a move back above WEEKLY Pivot and that MONTHLY R1 should get a catapult move to my Halloween target of 1,600.

With volatility having spiked today, I'd trade IN-THE-MONEY , or AT-THE-MONEY call options. I'm going to be looking to buy the SPY November $153, or $154 calls.

If the Transports (TRAN) are NOT above 4,980 should the SPX/SPY trade MONTHLY R1 (1,563.90/$156.52) bulls can tighten up some stops.

Watch the Market Volatility Index (VIX.X) 19.25 +8.57%. It's WEEKLY R1 is 19.35 (see SPX at WEEKLY S1) and its WEEKLY R2 is at 20.96. Should the VIX.X hit 20.96 and reverse back lower quickly, that suggest that institutional computers, and traders that LOVE to SELL PREMIUM have found a level they have confidence in.

Remember, VIX declines when call BUYERS/put SELLERS are more aggressive than call SELLERS/put BUYERS.
 

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