Are you ready for round two? The market's oversold bounce has rolled over and it appears the correction has already begun phase two. Concerns over the future and the possibility that the eurozone may eventually unwind sent markets lower, but you could argue it's the most convenient excuse for investors to sell stocks in a weak market. The euro currency's breakdown to new 19-month lows sent shockwave throughout the currency, equity and commodity markets.

Investors are wading through rising levels of uncertainty, which is exactly what Wall Street hates the most. Rumors were running wild the last couple of days. One rumor suggested that France had threatened to leave the eurozone if Germany didn't participate in the $1 trillion bailout fund. On Friday there was a rumor that France's credit rating was going to get downgraded. These are just rumors but they had an impact on an already shaken investor sentiment.

A week ago I mentioned that Greece may never be able to pay back its debut due to extremely low growth. It's not a new concept but it appears to be gaining steam. Meanwhile markets are worried that the big banks across Europe may have to recapitalize the same way U.S. banks did following the Lehman Brother's meltdown. Adding to European woes was signs that Spain could be facing deflation. Central banks fear deflation the most and a low-growth environment, high-unemployment environment doesn't help.

Chart of the U.S. dollar ETF (UUP):

Chart of the Euro currency ETF (FXE):

Chart of the USO oil ETF (USO):

Wild swings in the currency markets continue to plague the commodity markets. Crude oil has dropped to new relative lows. The oversold bounce in copper prices has rolled over. All of the uncertainty and rising fear levels has pushed gold futures to a new high near $1,250 an ounce. Volatility in oil will probably continue this week. The June futures contract expires this Thursday and storage at Cushing, OK, the primary delivery point for crude in the U.S., is vanishing quickly. The price of oil is going to drop even faster if we run out of storage for it. My question is what does elevated storage levels say about consumption and growth in the U.S. economy? That seems like a bearish reading to me.

The economic data in the U.S. continues to come in positive. Industrial production and manufacturing continue to improve. Last week's retail sales numbers saw their seventh monthly gain in a row. April retail sales gained +0.4%, which was better than the +0.2% economists were expecting but it was a big drop from the +2.1% gain in March. Year over year retail sales are up about 8% but a year ago the economy was crashing so comparisons are very easy. I warned readers last week that when we start to see the rate of improvement in our economic data slow down it could be a warning sign. Retail sales are just one factor and one month doesn't make a trend but we need to stay cautious. Speaking of cautious the consumer sentiment data slipped to 73.3 but appears to be range bound in the low 70s.

This week we will get the CPI and PPI reports but inflation has been tame so these will not be market movers. The FOMC minutes from their previous meeting will be out but is unlikely to raise any eyebrows since the Fed didn't change their wording in their announcement. The Philly Fed survey will be released and many see it as a precursor to the national ISM report. Plus, we will hear from Wal-Mart (WMT), the largest retailer on the planet, who reports earnings on May 18th before the market's opening bell. Analysts are expecting a profit of 85 cents a share. WMT's comments on the state of the economy and the consumer will be the real story.

Looking ahead we will remain hostage to the headlines in Europe. Last week's news about the planned $1 trillion fund to handle future debt default challenges for eurozone members produced a short-term pop but the impact was brief. Either the market has no faith this will solve the EU's problems or they doubt the fund will actually get implemented. This week will be noteworthy for Greece since the country has an $11 billion debt payment due on May 19th. It will be interesting to see how the markets react to this event and whether or not Greece pays it on time.

Looking out over the next several months it appears the EU is headed for a double-dip recession. Rising debt burdens are going to impeded growth even more and this next recession could be worse. The U.S. economy is still improving but having Europe slide back into recession is not going to help. Readers already know that I'm worried the U.S. will see a slowdown six to nine months out.

I'm still optimistic on the U.S. but short-term stocks look fragile and I would expect the market to retest the recent lows. The DJIA will probably retest the 10,200-10,000 zone. The S&P 500 index will probably retest support near 1100 and its 200-dma. The NASDAQ will probably test the 2200 area and its 200-dma. The small cap Russell 2000 will probably drop toward the 650 level and possibly its 200-dma. If these levels break then we could be in for a significant decline.

I've mentioned it before, that there are plenty of investors who believe the markets are in a long-term bear market. This group believes the rally off the 2009 lows was just a huge bear-market bounce. The S&P 500's failure at a key Fibonacci retracement level certainly helps their case. Cautious investors will want to scale back their positions, re-evaluate their stop loss placement, and consider buying puts on the market (maybe the SPY: S&P 500 index ETF) as an overall hedge in case of any serious downturn (give yourself time for these to work if you choose to buy any).

Right now the intermediate trend for the U.S. market is still up. Traders did buy the dip near the 10% correction levels. I do think we will retest these levels. Nimble traders can use weakness to open new bullish positions but I strongly suggest readers keep their position size very small. If a trade continues in your favor only then would I consider slowly adding to positions. I am still concerned that the big jump in volatility over the last couple of weeks could be a sign of a market top. Plus the headwinds from Europe and a bear-market in China's stock market could be substantial.

Chart of the S&P 500 Index:

Chart of the S&P 500 Index (WEEKLY):

Chart of the NASDAQ Composite Index:

Chart of the Russell 2000 Index:


Previous Comments on my Long-Term Outlook:

My long-term outlook has not changed. I still expect the economy to see a double-dip, "W"-shaped rebound with the second dip in late 2010 (some analysts are predicting it will not show up until 2011). Lousy consumer spending, rising foreclosures, and lagging job growth will be the main culprits. Several weeks ago there were some comments out of the U.S. Treasury concerning foreclosures. The Obama administration's HAMP loan modification program can only help a certain number of homeowners and one official said that even if the HAMP program was a total success we should still expect millions of new foreclosures. Estimates were in the 3 to 5 million foreclosures over the next three years but a White House advisor was quoted with estimates in the six to ten million range over the next three years. This only reinforces my own belief that we will see another tidal wave of foreclosed homes in 2010 and 2011. What is that going to do to consumer confidence and consumer spending? It's not going to help! You can review my long-term outlook here. It's the second half our my "Two Months Left" commentary.

~ James Brown