10:30 am EDT:  As we wrote this morning, statistically, on a PostPOMO / POMOA day (if that’s Greek to you, hit POMO in the tag cloud below for descriptions in other posts), we see the low in the first hour, which is now up.  As we’ve tested overnight lows, price supports a reversal as well.  Below 963.50 (overnight low), we won’t get aggressive short until 957.50 is taken out as day trade and longer term traders will see 957.50 to 960.00 as a good entry area for a variety of reasons.  We’re still willing to fade a rally at the ~972 area if we still have below average volume, but will not stick around short above overnight high of 973.75.  Above, and we’ll look for longs up to daily R1′s at 980.50 to 981.00.

The morning report was released on schedule, but here it is again.  If you don’t receive the report by 8:45 am to 8:50 am, please don’t hesitate to check the main website directly.

The Precise Take – Equities confirm breakout; Treasuries slump on record auction announcement

Yesterday was as expected a critical day for equities and US Treasuries.  All stock sectors participated in the up move, the EuroYen forex cross as risk barometer was up strongly, long term Treasury yields skyrocketed, and crude was up materially.  These are all the signs of an inflation-based rally.  Only gold, which was up against heavy 61.8% retracement resistance from the year’s high did not move up as expected.  The US announced it would be auctioning 199 $ B in short to long term Treasuries next week.  As we updated yesterday, this is in addition to the $30 B in 10 Yr and 30 Yr already auctioned, bringing the monthly total to $229 B, dwarfing last month’s 195 B and the previous month’s $184 B.  With equities up materially, the 10 and 30 Yr futures are back to where they were on Tuesday morning, prior to the Bernanke testimony, with further losses likely (high yields) should equities push higher today or early next week. 

Having said all this, there are two clouds looming on the horizon which we believe are a serious impediment to this rally.  The first is the continued volatility and decline in non-seasonally adjusted money supply (M2 NSA), which declined further last week as reported after the close yesterday.  We will be releasing a detailed report intraday (register for free notifications and updates here) on how this has coincided with all but one of every major autumn stock market crash since 1981, with only one false positive. 

The second cloud is next week’s record-breaking Treasury auctions.  The previous month’s auctions were heavily subscribed and helped contribute to the decline in late June to mid-July.  High bid to cover ratios and elevated foreign interest (especially in the longer dated issues) signal expectations of the savviest bond investors that Treasuries will rally and stocks will decline.  Should demand be tepid, the rally has a chance to at least go sideways to nominally higher with perhaps only a 10% correction occurring sometime over the next three months.

The Federal Reserve Bank of New York (FRNY) conducted permanent open market operations (POMO)* yesterday to the tune of $3 B (slightly below average), which flooded large banks with leveragable liquidity at about 11:00 am.  The end of day tape-painting did not occur, though the ES had hit R3 by 2:00 pm, so that was a hindrance.  Today, the FRNY will be conducting POMO of Agency securities, so there is a similar but less pronounced bullish effect.  The usual decline after POMO days is tempered by the Agency POMO; so, statistically, the low of the day should be in the first hour.

The ES needs to get over 972.25 to resume its rally and, with Consumer Sentiment the only scheduled news at 9:55 am, earnings digestion should direct the markets.  We would be careful about shorting except for…

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12:04 pm EDT:  Below is the table from this morning’s report updated to include the funding announcement of the US Treasury released today at 11:00 am.  We don’t recall the 52 wk auction scheduled to be announced this morning and it appears to have been slipped in at the last minute.  The bottom line is a record $199 B will be auctioned next week, a $34 B increase over the corresponding week in the previous month (even without the 52 wk auction, the increase is $7 B).  Including the 10 Yr and 30 Yr, which were already auctioned this month, there is $229 B in new debt being issued this month. 

Not surprisingly, long term yields are soaring and bonds are sinking to the lows established before Bernanke’s congressional testimony on Tuesday.  With a soaring stock market (inflationary), record debt issuance, and a Fed that refuses to monetize debt (evidenced by shrinking M2–updated weekly report today at 4:30 pm), we are on a collision course with a very volatile end of summer into fall.  We pay respect to the breakout today and would not discourage experienced traders that can monitor positions on a daily basis and enact good risk management, but the threat to long term passive investors is immense. 

Eventually Bernanke will either further shrink money supply to keep yields under control (with the good possibility of inducing another market crash), or yields will be allowed to explode and we will enter the beginning of a hyperinflationary cycle that will take some time (perhaps a year or more) to become dangerous, but ultimately ends with a bond market singularity that results in the reptriation of all US debt and practical end to the US Dollar.  Bernanke is aware the latter is much more onerous that the former, which is why we are skeptical of suggesting any long term investment in equities by any but experienced traders.

In the ES, we hit our 970.50 major upside target and are closely approaching the daily R3′s at 974.75 to 976.50.  Given the strength so far, we would not be surprised to see them eventually exceeded and could even hit monthly R2 at 986.25 on the permanent open market opearations (POMO) close ($3 B in funny money [before leverage] dumped into the markets this morning).  Also, the Treasury just announced that tomorrow it will make Agency POMO purchases, suggesting another strong close tomorrow.  Accordingly, even if the market is extremely overextended on the close today (likely) and a short is initiated, it should be closed in the first hour tomorrow rather than held to close.

10:11 am EDT:  Last resistance is 962.50 to 963.50; however, we would be surprised if it is not easily cleared.  Only longs until price is below 951.25 (unlikely).  Still watch for 11:00 am Treasury funding report, but should not be a major market mover.

The Precise Take – Today could decide the fate of the rally

Today is a very important day for the US Treasury, for at 11:00 am EDT, it will release its funding intentions for the 3 Month, 6 Month, 2 Year, 5 Year and 7 Year auctions.  In the below table, we can see the Treasury has steadily increased its borrowing through the 5 and 7 year Notes.  Each funding announcement has been met with an increase in yields over the following weeks, except for the last one on June 19 09.  With the S&P 500 within points of breaking out (which would likely send yields higher on its own), the market’s reaction today will be critical.  If the funding amount is less than the $165 B, yields could be temporarily spared from further upside action in equities as the markets (always taking into consideration the second derivative only!) become less worried about the glut of US debt.  However, if the increase continues today, Bernanke will have a large problem on his hands should equities continue to rise.

Funding Intentions of US Treasury in $ Billions

We’re running short of time, so we point readers to today’s time profiles for expected market direction on page 2 and where we are bullish or bearish on page 3.  Watch the 10:00 am existing home sales report.  If we’re at resistance and there is a spike high reversal through resistance, this is bearish.  If we’re down at that point and the market reacts positively, the momentum could carry through resistance.

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10:20 am EDT:  The ES tested supply in our bullish area just above yesterday’s settlement of 853.50 and now needs to get above this area to test contract highs at 957.50.  Otherwise, we will probably test overnight and day session lows in the 942.75 to 944.75 area, which we would fade long with a tight stop, but not hang around long below.  Fading short above the current day high of 954.50 is very risky.  Then again, so is a long between 853.50 and 857.50.  The shorts need the high to be in and the longs have the advantage of being able to test lows and rally again in the afternoon.  Only below 940.75 does it look like the high is in for the day.

10:30 am is the petrol report with crude so far backing off its high of yesterday.  Higher crude = improving industrial capacity utilization = higher equity prices.  The inverse is true as well.

For Post POMO day profile followers, the down correction came a bit early pre-market, so we’re not as encouraged for the typical pattern to hold and would not hang around with shorts should we see new highs.

The Precise Take – Continued gains, but hanging at resistance

Yesterday’s 16.75 point intraday correction in the ES was the largest since July 8’s 18.25 point correction, which set the interim low of 865.25 that was tested three days later and began the latest up swing.  Though the rally from the early afternoon into the close yesterday was impressive, it was entirely consistent with the profile of one of the days in which the Federal Reserve Bank of New York conducts permanent open market operations (POMO), flooding large banks with cash, which can be leveraged, and is highly correlated to a very strong end-of-day close*.  The profile for Post POMO days (today) typically sees a strong decline in the first hour of trading (already begun today premarket), a brief afternoon reprieve into the 1:30 pm closing hour and continued marginal declines into the close.

Additionally, yesterday’s day-session-only generated a hanging man candlestick pattern with a small body on top with a long shadow beneath it, which we have not seen in some time.  Placing the additional condition of having the open or close of the hanging man be greater than the greater of the open or close of the previous bar, we have only seen this pattern a few times in the last few years.  The last such one was on July 18 08, which was after a prolonged down move and did see higher prices in the subsequent months.  Prior to that, however, there was one on May 16 08, which saw a spike high above the 200 day MA the following day, only to be hammered lower over the next two months.  Before that, another on Dec 26 07 was the high for the next month and also coincided with a peek above the 200 day MA.  Prior to that, there were two close together, one on Mar 26 07 that saw a 5 day decline, and another on April 4 07 that saw a precipitous two month rally.  Accordingly, if the ES cannot close materially higher today (or tomorrow at the latest), this is a very bearish pattern short and medium term.

Bernanke speaks again at 10:00 am; however, we think his points were made yesterday where he talked bonds up and yields down to save a retest of recent extremes.  As we wrote in an intraday update yesterday, he does appear more concerned with keeping down long term yields than propping up the stock market.  With oil on the rise again, eyes will also be on the 10:30 am petroleum status report.

As we write, the ES has entered our bearish zone and already broken down to the daily S1’s, where it has found temporary support.  We are bearish again from…

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We have been harping for weeks on the incongruity between a Fed that needs to keep down long term interest rates and a risking stock market that is inflationary and points to higher long term interest rates.  Today, with the S&P 500 within a hair of breaking June highs, Bernanke came out guns blazing with an oped in today’s WSJ (as detailed in our morning report) and testified before congress to talk down yields.  So far, the 30 year has had its greatest one day gain (with yields inversely heading down by the same margin) since the July 8 09 interim low in the S&P 500.  Make no mistake, Bernanke does not want new highs in yields and is willing to throw the stock market under the bus.  No doubt new equity longs will vigorously defend their positions and we can easily see new highs.  However, the battle is raging and we are not willing to jump onto the buy and hold bus until there is a clear victor.  Hopefully, this will emerge over the coming weeks.

However, as we have posited before, we could enter a situation where long term Treasuries and equities are manipulated in a tug of war in a vain attempt to maintain the status quo–two weeks equities are on a massive tear and bonds are down, the next two weeks reverse, etc.  The longer that goes on, the greater damage is ultimately done to the economy as investors are shaken out permanently from the markets.  As ZeroHedge would say, we would then have two SPARCs trading with themselves in a basement of the NYSE financed by FRNY funny money.  Another point on this last sentence–just because the New York FR Bank is pumping out dollars through permanent market operations (POMO) twice a week does not mean this is Bernanke’s doing.  New York is Wall Street and Bernanke is Washington.

The Precise Take – Quiet Monday closes over June resistance; continued strength overnight

Bernanke speaks at 10:00 am, which could be the mover of the day, should there be one.  Earnings announcements continue to be dribbled, but with no other scheduled news, we have bumped him up to the Major Market Movers in the right column, perhaps out of nostalgia for the days last fall when his mere appearance on television could send the markets standards of deviations higher or lower.  We don’t expect this action today, but will be cautious around 10:00 am, when his testimony to the House Financial Services Committee is released, especially in light of his coordinated op-ed in the Wall Street Journal this morning, which is his standard toolbox speech, but geared toward the Fed’s exit strategy for draining reserves and ultimately fighting inflation when the economy recovers.  Bernanke seems to have given up on the idea floated through San Francisco FR Bank President Janet Yellen whereby the Fed would issue its own debt to drain reserves—such are the political headwinds now at the Fed.  As we updated yesterday, the 30 year and 10 year hit key support levels and were able to bounce, keeping yields in check even as equities edged higher.  However, a material breach will set yields off to test highs, putting the Fed in a precarious position.  Clearly, the Fed and the administration want to have their cake and eat it too—higher equities and lower long term interest rates.  We will watch for clues as to any change in how these two plates will be kept spinning.

The ES closed at its highest level of the year yesterday, finally overcoming the 944.75 June closing high, reaching the 952.75 long term upside target (the next being 970.50), and thus paving the way for higher prices.  That being said, we are in the critical resistance zone and need to be very careful with both longs and shorts as there tend to be shakeouts on both sides in these areas.

Daily R1’s (calculated on day-session-only and the day and overnight sessions combined) from 953.00 to 954.25 have provided overnight resistance as we write.  We are bullish down to…

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