The future of Greece and the Eurozone continues to overshadow economic data. Stocks dropped for a third week in a row. Even the overhyped Facebook (FB) IPO failed to renew any excitement or positive sentiment for stocks. Worries over Greece started anew last Monday and never left us. Economic data was mixed throughout the week but had little impact on stocks.

The U.S. markets and the euro currency are both down three weeks in a row just as the U.S. dollar has rallied three weeks in a row. Gold managed an oversold bounce on Thursday and Friday thanks in part to a little profit taking in the dollar on Friday. Oil prices have plunged in the last three weeks as well. Money is flowing out of equities (and commodities) and into the safety of bonds. The yields on the U.S. ten-year note has closed at a record, all-time low of 1.7%. Yields were this low back in September 2011 but they didn't close here. After the last three weeks of pain for bullish investors the "sell in May" strategy is starting to look pretty good.

Economic data failed to have much impact on the market. The release of the FOMC minutes was a non-event. April retail sales in the U.S. were lackluster. The Consumer Price Index reading on inflation was flat at 2.3%. Housing starts in April rose to an annual pace of 717,000, up from a revised 699K reading in March. The homebuilder survey did rise to 29, its highest level in five years. The New York Empire State manufacturing survey came in better than expected with a rise from 6.6 in April to 17.1 in May. Yet the Philadelphia Fed survey dropped unexpectedly from 8.5 a month ago to -5.8 in May.

There were two main stories for the market last week. These were Greece and Facebook's IPO. Markets are very concerned about Greece. Elections were two weeks ago and the newly elected officials have been unable to form joint government. The country's parliament has been "formally dissolved" and new elections are scheduled for June 17th. Expectations are the anti-austerity crowd and those in favor of leaving the eurozone could win.

Two years ago the thought of Greece leaving the Eurozone was inconceivable. Yet now, after years of squabbling, delays, meetings, market crashes, and hundreds of billions in bailouts, nothing has been fixed and there is a growing chorus for Greece to exit the euro. The situation remains broken and this tiny country of 11 million people could herald the end of the Eurozone as we know it. (FYI: the Eurozone is the 17-nation group with a common currency, the euro. It's also called the EMU or economic and monetary union.) The Fitch rating agency recently downgraded Greece's long-term credit rating from B- to CCC, which essentially means they are expecting the country to default. A recent Bloomberg investor poll showed that the majority of investors do expect Greece to exit the euro within the next twelve months.

The situation is deteriorating fast in Greece and the flow of money out of Greek banks accelerated significantly. People have been pulling money out of the Greek banking system for months and months but it really picked up speed but the real problem is that it's spreading. Now we're starting to see consumers and investors pulling money out of the Spanish banks. This is exactly what the EU does not want, which is a run on the banks. Yet if you're a Greek citizen you'd rather pull your euros out now than wake up one day and have your account converted into new Greek drachmas, which will be instantly devalued.

A Greek exit is going to be extremely painful for everyone although in the long-run it's probably better for the country of Greece. The real trouble will be the doubt and insecurity it creates for the rest of the Eurozone. If Greece can leave then Spain, Ireland, Italy and Portugal will all consider their own exit instead of suffering under harsh austerity budgets and little to no economic growth for years to come. Significant sections of the EU are already in a recession. The unemployment rate in Spain is so high it would be considered at economic depression levels.

The lack of growth in Europe and all of the political uncertainty does not foster new business investment. Instead investors and companies will hoard cash and look elsewhere for opportunities. Europe is the largest trading partner with China and the slowdown in Europe is probably taking a toll on China's economy. Meanwhile the country of Spain is moving closer and closer to the cliff. It's been said that Spain is too big to bailout. If you're the EU and you have wasted billions of euros only to fail at bailing out the tiny country of Greece would you even want to try and bail out Spain?

French President Sarkozy just lost his job because France is unhappy with how this situation is turning out. How many other politicians are worried about their jobs and will choose to do the popular thing instead of the fiscally wise choice for their own country? Of course therein lies part of the problem. Everyone is still more concerned about their own country and not the EU as a whole.

Moody's credit rating agency just downgraded 16 Spanish banks. The timing of this announcement was probably not a coincidence as the bad-loan ratio in Spanish banks has risen to 8.37%, a 17-year high. All of this is creating more fear in Europe and bond yields in both Italy and Spain are rising again. Adding fuel to the fire was a headline out late Friday night that Spain was raising its 2011 deficit numbers from 8.5% to 8.9% of GDP. Their original target for 2011 was only 6% of GDP. Officially, to be a member of the Eurozone each country was supposed to keep their deficit at 3% of GDP. Several countries have at times broken this threshold but EU authorities never actually followed through on proposed fines for these events. When you consider all the headlines and uncertainty boiling in Europe it's not a surprise that European stock markets just produced their worst one-week drop in several months.

I feel somewhat obligated to discuss the Facebook IPO although I'm sure by now you're probably sick of hearing about it. Last week in the financial media it was Facebook news all the time, 24 hours a day. The company priced its IPO at $38 a share, valuing the company at about $104 billion. This puts the value of FB at more than AOL, eBay, Groupon, IAC, LinkedIn, Netflix, Pandora, Yahoo and Zynga combined. If you compare FB's $104 billion market cap against the blue chip stocks in the Dow Jones Industrial Average, FB is worth more than the bottom 15 components (individually).

FB's founder, Mark Zuckerberg, is probably the world's richest 28-year old with a net worth of more than $17 billion. While he only owns a 28% stake in the company he controls 60% of the voting rights. Odds are his net worth is going to drop on Monday. The stock struggled to stay in positive territory on Friday. Were it not for massive support from the underwriters the stock would have probably traded in negative territory but the group of investment bankers that brought the company public placed massive bids at $38.00 a share to prevent that from happening. More than 581 million shares of FB traded, making it the most active IPO in American history. Only 440 million shares were offered on Friday but in the next six months that number is going to soar to 1.34 billion shares. There is a 90-day, 150-day, and 180-day lock up periods all due to expire allowing insiders to bring more stock to market. With that much supply on the horizon I would put odds at almost 100% that FB will trade below $38 a share in the next six months. If you're interested in being a long-term investor I wouldn't rush to buy it now. We've got time to wait for shares to find support first.

Major Indices:

It has been a rough month for the market. The S&P 500 is down 11 out of the last 13 trading days. It's off -4.3% for the week and down -8.9% from its early April highs near 1,422. This past week has sliced through potential support at 1,340, its exponential 200-dma, its 150-dma, and the 1300 level. It's very short-term oversold. The problem is that stocks and indices can always grow more oversold. A move to 1280 would be a -10% correction from this year's highs.

Even if the S&P 500 does manage a bounce soon I would not trust it. The damage is done. The bullish up trend is broken. Any bounce is probably just a relief rally that will be seen as a new opportunity to get short again. Yet that doesn't guarantee we'll see new relative lows but if I had to bet I would look for a drop toward the simple 200-dma near 1278 (remember that -10% level?) and possibly the 1250 level. The S&P 500 closed last year at 1257 so that could prove to be a support level. If the S&P 500 closes in negative territory for the year it's going to be another negative for investor sentiment.

It's always possible that the S&P 500 churns sideways for a while instead of hitting new relative lows but we're going to have to wait and find out.

Daily chart of the S&P 500 index:

The sell-off in the tech-heavy NASDAQ was even worse. The NASDAQ composite is down -5.2% for the week and the correction has been gaining speed. The breakdown under the 2830-2825 area was significant. The index looks headed for the 61.8% Fib retracement near 2755 and its 200-dma near 2740.

It would take a breakdown under 2600 to erase the NASDAQ's gains for the year but if we see a close under the 200-dma, betting on a (the eventual) decline toward 2600 might be a good bet. This index, like the S&P 500, is very short-term oversold and due for a bounce. I would expect the first rebound to reverse and the 2900 level is new overhead resistance.

Daily chart of the NASDAQ Composite index:

The small cap Russell 2000 index also suffered a -5% drop for the week. Unfortunately, this move broke the neckline of a bearish head-and-shoulders pattern. Broken support near 780 is now new resistance. This H&S pattern should forecast a drop toward the 710 level (the mid December lows).

Friday's close under the 200-dma is technically a bearish sell signal but we can expect an oversold bounce here too but the rebound will likely be used as a new entry point for short-term bearish positions.

Daily chart of the Russell 2000 index

The economic calendar slows down significantly this week. We'll see some home sales data but these will likely be ignored by the market unless they are way below expectations. The big report is probably the Michigan sentiment survey but it too could be ignored.

Monday the market will likely be reacting to Spain's announcement of a higher 2011 deficit target. Plus the market could react to any headlines out of the G8 summit and NATO summit held this weekend. We will continue to see some late season earnings reports. A few of the company's reporting this week are: URBN, LOW, DELL, BBY, NTAP, HPQ, COST, TIF.

Economic and Event Calendar

- Monday, May 21 -
(nothing significant)

- Tuesday, May 22 -
existing home sales

- Wednesday, May 23 -
new home sales

- Thursday, May 24 -
Weekly Initial Jobless Claims
Durable goods orders

- Friday, May 25 -
University of Michigan consumer sentiment survey

Upcoming events:

end of May 2012: IMF's quarterly review of Greece

The Week Ahead:

I warned readers a week ago that the market outlook was stormy. Stocks did not disappoint on that front. Unfortunately, stocks and markets tend to overshoot when correcting and go lower than you expect. Not helping matters is the growing bearish sentiment. Traders forget that market corrections of -10% are normal. Yet bearish sentiment has hit multi-year levels and the S&P 500 is only down about -9% from its highs. Granted, I don't see a lot of bullish catalysts on the horizon to turn things around. We remain captive to headlines out of Europe.

Big picture, not much has changed from a week ago except the U.S. markets are -5% cheaper and Greece is one step closer to leaving the euro. I strongly suspect that we will see an oversold bounce soon but let me repeat I would not buy it. I would expect a bounce back toward resistance only to see stocks roll over again. The question is whether or not we hit new relative lows or do stocks churn sideways as investors wait for a reason to buy again? If you consider the lack of success with Europe's ability to solve the Greece issue and the growing concerns over Spain, then I would probably bet on new lows. Of course things could change if something unexpected happens. Maybe Mr. Bernanke will surprise the market with QE3. We are approaching the end of Operation Twist so they might seek to do something before it gets too close to the U.S. presidential election. My concern is that more QE would have less of an impact as the market gets desensitized to it.

Looking ahead we have new Greek elections in mid June. The Q2 earnings season will start the second week of July. There is always a chance that corporate results and guidance could override a Greece-weary market. As we move deeper into summer we will slowly drown under what will likely be a nasty political campaign between the democrats and republicans as they throw mud at each other trying to sway the undecided and independent voters that will determine the election's outcome.

Beyond the November elections is the fast approaching (and previously discussed) U.S. fiscal cliff in January. If you put that altogether we have a recipe for a monumental "wall of worry" the bulls need to climb to push stocks higher. I'm not saying they can't lift stocks higher but it could be a struggle. It's going to boil down to investor sentiment. Technicals and economic data can always be ignored if investors choose to be in a buying (or selling) mood. With that in mind, the elevated bearish sentiment in the market might actually be a good thing and could suggest we're close to a bottom than we realize. However, I have yet to see what would be considered a capitulation day so we should anticipate more volatility ahead.

- James