Lower jobless claims and a potential improvement in the European credit crisis combined to produce another short covering rally with more than a 550 point trading range.

Market Statistics

History was made on the Dow today. Never in the history of the Dow has the index traded in a 400 point range for four consecutive days. So far this week we have seen -635, +430, -520 and +423. The current volatility is extreme and that suggests a bottom is trying to form. Friday could be the pivotal day that determines if the Dow can squeeze out a gain for the week or continue its string of losses. The Dow would need to close over 11,445 to end the week with a gain. I would be thrilled but I am not holding my breath.

Helping to improve market sentiment was a drop in weekly Jobless Claims to 395,000 and the first time under 400,000 since April 2nd. This was a minor decline of -7,000 claims but under 400,000 is a psychological win. August is not normally a strong month for job gains so any drop in jobless claims is positive for sentiment. No states reported an increase in claims of more than 1,000.

Jobless Claims Chart

The International Trade deficit for June was released with the headline rising to -$53.1 billion from -$50.2 billion in May. Exports declined by more than $4.1 billion (-2.3%) and imports declined by -1.9 billion (-0.8%). Imports from Japan declined by -3.1% suggesting there are still some lingering supply problems from the earthquake.

The rising trade deficit and drop in exports was bad news for the next GDP revision. Current GDP factors like the deficit are pointing to a revision for Q2 firmly below +1% growth. You may remember the initial reading on Q2 GDP was +1.28% growth but the Q1 GDP was revised sharply lower to +0.36% growth. The impact of the recent economic reports including the Trade Deficit now suggests we could see a Q2 revision in the 0.5% to 0.75% growth range. That is still growth but a very slow almost stagnant economy.

Based on the recent Fed comments and the outlook for the next GDP revision Credit Suisse now believes the Fed will not raise interest rates until 2015. The U.S. has become not Greece but Japan. They saw years of very stagnant growth and low interest rates that lead to the term "lost decade" when referring to Japan's problems.

Personally I believe the U.S. will produce above trend growth once that growth cycle kicks into gear and that could be well into 2012. However, there are quite a few analysts that believe the U.S. is facing a period of stagnant growth more like 1974-1980 than 2002-1007. I don't believe we will ever see market volatility that low in the future. The world has changed a lot since the 1970s and that is especially true of the stock market, information flow and online trading.

Historically over the last 60 years any time GDP has dipped under 2% the country continued into recession with only ONE exception to that since 1950.

S&P Chart 1974-1982

U.S. consumers are still spending money. The CEO of Live Nation said concert attendance in North America rose +13% in Q2. The MGM resorts CEO, Jim Murren, said business in Vegas was booming and all hotels would be at near capacity for the rest of August. Disney CEO, Robert Iger, said lines were still long and prices were stable at al their theme parks. Macy's CFO said higher prices for its upscale products in Bloomingdales had failed to discourage shoppers and money was flowing.

However, a survey of 1,200 senior executives by the Corporate Executive Board produced the lowest level of confidence since 2009. Only 38% planned to expand payrolls over the next 12 months and down from 58% six months ago. Businesses are still hording cash with the S&P companies holding nearly $1 trillion today compared to $648 billion in September 2008.

Economic reports due out on Friday include the Retail Sales for July, Business Inventories and Consumer Sentiment. The one most likely to be upsetting to the market will be the Consumer Sentiment. Consensus estimates are looking for a minor decline to 63.0 from 63.7 in June. I think that given the dramatic events of the last two weeks in the debt debacle, market crash and European crisis the number will be much lower than 63.

Also helping to calm the markets on Thursday was news German Chancellor Angela Merkel and French President Nicolas Sarkozy would meet this week to come up with a joint proposal to backstop European banks and halt the current credit crisis in Europe. Germany is commonly seen as the banker for Europe and Merkel figures prominently in the future of the Eurozone.

European banks, especially those in France, have been hard hit this week on worries the sovereign debt crisis was impacting them negatively and there were hidden losses on their books. Bank of France head, Christian Noyer, blamed "unfounded rumors" for significant declines in shares of the leading banks including Societe Generale and BNP Paribas. Noyer said strong earnings in the first half of 2011 confirmed their solidity in a difficult environment.

The Frence market regulator, AMF, announced late Thursday a ban on short selling on specific stocks, which included the leading banks. This followed several days of turmoil where bank shares gyrated wildly. The ban is for 15 days and can be extended. The ban covers 11 leading financial stocks. Eventually regulators will learn that bans rarely work if a company is in serious trouble. It just postpones the pain. In this case they are trying to buy time while Merkel, Sarkozy and others try to working a backstop plan. One solution would be for the ECB to guarantee bank deposits like the FDIC does in the USA.

The ban was extended by the EU market supervising authority, the ESMA, to include a ban on short selling across four countries including France, Italy, Spain and Belgium.

France is also going to extremes to make sure it does not lose its AAA credit rating. Sarkozy cut short his vacation and ordered ministers to come up with new budget cuts to keep France on track with its deficit reduction targets. All three major ratings agencies reaffirmed the AAA rating for France pending the identification of a specific cause for the market turmoil.

In the U.S. it was almost like a regular market day with the exception of the +525 point intraday gain. Earnings were back in the news with Cisco shares gaining +16% after reporting better than expected earnings after the close on Wednesday. That was the first gain after earnings since March 2010.

Kohl's (KSS) reported earnings that rose +17% or +$1.09 per share. Analysts were expecting $1.05 per share. Revenue rose +4% to $4.25 billion. Same store sales rose +1.6%. That was not exactly setting the world on fire but sales did increase. Kohl's did raise guidance to $4.45 to $4.60 from an earlier range of $4.25 to $4.40. Analysts were expecting $4.39. Kohl's shares rose +7.2% on the news.

Nvidia (NVDA) reported earnings that were inline with estimates at 25-cents but revenue rose +5.7% QoQ and +25% YoY. On a non-GAAP basis earnings were 32-cents. Gross margin rose to 51.9% from 50.6%. Nvidia guided revenue growth of 4% to 6% in Q3 and higher than analyst estimates. Nvidia said consumer demand for notebooks powered by the GeForce GPU resulted in record revenue for those products. Nvidia shares rallied +$2 in after hours to $15.10.

Nvidia Chart

MolyCorp shares rallied over $4 in after hours trading after the company reported earnings of 52-cents when analysts were expecting 39-cents. The company said it produced 1,249 metric tons of rare earth oxides and was on track to increase production to 19,050 MT by the end of 2012 and 40,000 MT by the end of 2013. China currently produced 97% of the world's rare earths and they have all buy halted exports. MolyCorp is uniquely positioned to profit from this in 2012.

MolyCorp Chart

The banking sector was crushed this week but traders moved back into the sector today. It was likely more short covering than new buys but it all counts when the smoke clears. Bank America (BAC) was crushed for a -20% loss back on Monday but has been slowly gaining ground and ended with a +7% gain today. Goldman also rallied +7% to just under resistance under $120. Banks began to rally after JP Morgan CEO Jamie Dimon went on an "America is great and healthy" rant on CNBC on Wednesday.

Bond buyers were not that sure about America long term as evidenced by an ugly 30-year auction today. This was the first auction of long-term debt since the ratings downgrade to AA+ from AAA. Bond yields for the 30-year spiked to 3.75% from the 3.64% the market expected. That is a record tail for a 30-year auction. The bid to cover ratio dropped to 2.08 from an average of 2.51. More importantly the indirect bids, a proxy for foreign demand, fell to 12% from the normal 40%. That is the LOWEST EVER indirect bids. Apparently foreign central banks and investors are less confident about lending money to the USA after our high profile budget battle and resulting downgrade. The short-term auctions earlier in the week were fine with buyers still willing to risk not having a default for the next two years. Apparently they are not as confident about the long-term prospects.

30-Year Yield Chart

The Super Congressional Committee called for in the recent debt deal has been formed and the outlook is bleak. The committee is just a smaller version of the house and senate and the budget positions of each of the members is well known. There is a growing worry that the committee will be deadlocked just like the major leaders were deadlocked heading into the August 2nd deadline. One Washington commentator had an interesting comment today when questioned about the drop-dead date for the committee to make cuts or have cuts forced upon them. He said Congress passed the deadline and they can change it at will with another vote. He said he would not be surprised to see it slip with only token cuts and postponements until after the election. I wonder how that would factor into the 30-year bond sales?

Gold prices declined sharply after hitting a new high at $1817 overnight. The reason for the decline was the easing tensions in Europe and news the CME was raising margin requirements by +22%. The CME killed the silver rally back in May by raising margin rates multiple times in a two-week period by more than 60% in total. Gold futures don't have as much volume due to the size of the contract and the greater participation by larger institutions. Analysts expected a pullback after the $1800 breakout on Wednesday so this may be just a temporary decline.

The $1817 level was a +$170 gain since Friday's close. Political and financial uncertainty is a powerful force for gold. JP Morgan upped their price target to $2500 BY YEAR END! Bank America is expecting $2000 based on growing indications there will be a QE3. Goldman Sachs said $1860 is imminent because of the low interest rates. Deutsche Bank said it is not too late to buy because it won't be a bubble until it trades over $2000. That much agreement in a continued upside suggests those firms are long gold and will continue to pump up prices.

Gold Chart

Crude oil rose to $85.60 on the weaker jobless claims and the equity rally. The risk on trade appeared to be back on for commodities after Corn futures rose limit up on bearish crop news. The EIA, IEA and OPEC all updated their demand forecasts and all were expecting demand to increase by more than 1.0 mbpd in both 2011 and 2012.

U.S. WTI Chart

I heard two different traders on TV talking about a $1 billion SPY put sale this week. I tried to track it backwards using the volume and open interest but the numbers are so large on the SPY it is nearly impossible if you don't catch it when it happens. Selling $1 billion in naked SPY puts is a monster bet the market is going higher. Major bets like this do happen. Och-Ziff Capital Management, a $30 billion fund, bought $11.8 billion in calls and puts back on July 13th. ($7.14 billion puts, $4.65 billion in puts on 93 stocks in the S&P) This was apparently a volatility play and they definitely got their volatility. Of course buying options is a little different than selling $1 billion in naked SPY puts. If that trade goes against you it would be a little difficult to exit in a hurry. That represents a pretty bullish bet the market is going higher. There was no name attached to the $1 billion play.

The S&P rallied +52 points to close at 1170 and well off the support at 1120 that has held for the last four days. There was however some selling at the close but it was muted compared to the monster downdrafts we have seen in recent days.

The volatility has been so dramatic this week it would be next to impossible to predict market direction from day to day. The Dow has alternated from positive to negative every day for the last nine days. Alternating 400-point gains/losses over just the last four days is an indication of the uncertainty in the market.

I would expect another volatile day on Friday as traders decide if they want to be long, short or flat over the weekend. This is August and the dog days of summer for the markets as traders try to squeeze in a last chance for time off before the summer is over. Volume is still at record levels although it was about two billion shares lower today from Wednesday. However, the up volume was extreme. Note that the volume has alternated the last four days so there is no conviction in either direction. This is typical when markets are trying to find a top or bottom.

Internals Table

The S&P needs to move over 1215 for further confirmation of a potential rally. A return to the lows would damage sentiment and increase the worry over a continued decline with 1050 the target.

S&P-500 Chart

The Dow appears to be struggling with resistance at 11,200 and really needs to move over 11,600 to bring conservative investors back into the market. Five hundred point intraday swings are seriously detrimental to investor confidence regardless of which direction you want to trade. Shorts are getting crushed along with the buyers if your time in the trade is more than 24 hours.

Dow Chart

The Nasdaq posted a +4.7% gain but failed to reach that downtrend resistance line. Nasdaq 2500 is the psychological level holding it back. Strength was broad based with GOOG +13, Apple +10 and NFLX +11 leading the charge. Apple ran into some solid resistance at $375 and may have slowed the Nasdaq gains.

The Nvidia earnings after the close and positive guidance could help techs on Friday but the bigger problem remains the major bouts of broad based selling followed by short squeezes. This market is not being driven by fundamentals but strictly news related moves.

Apple Chart

Nasdaq Chart

The Russell 2000 posted a strong 5.4% gain but the chart is a clone of the S&P and Dow. There was no material out performance by the small caps, just heavier short covering. No sentiment indications here until the Russell outperforms the S&P by a wide margin.

Russell Chart

The markets are not trading on fundamentals and the next news item will determine our fate. However, by now you would think the worst prospects were priced in and a little bit of good news could keep the short covering alive. That theory will be tested on Friday as we watch to see if traders are going into the weekend long, short or flat. If the market rallies again on Friday it could catch fire because I am sure there are shorts that loaded up again at the close.

I would be cautious about any new longs on Friday unless we get some blowout news that powers the market higher. The odds are higher we will see selling at the close as longs take profits from Thursday's gains.

Jim Brown

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