Our submission for this week’s Chart Junkie on Wall St. Cheat Sheet (to be updated this afternoon) features “Bank non-borrowed excess reserves” from the Federal Reserve’s H.3 Statistical Release and how they correlate with the S&P 500.  We explain as follows:

US banks are required to keep money in reserve based on requirements set by the Federal Reserve (the Fed).  Anything beyond that is considered excess reserves and is generally held on deposit with the Fed.  Since last September, with the myriad Fed programs initiated, excess reserves have exploded (and along with it the Monetary Base, which includes excess reserves).  Some of these excess reserves are borrowed–for instance, the Fed may lend money to a bank based on collateral posted by the bank to the Fed, which could be a Treasury Security, an Agency Security, or even a Mortgage Backed Security.  Eventually, this money must be repaid and the collateral is returned to the bank by the Fed.  However, banks also maintain non-borrowed excess reserves, which is money on deposit with the Fed that they can use for any purpose without the need to repay it.  Banks might lend it out or, as seems to be the case this year, use it to ramp the stock market.  This money has come largely from permanent open market operations, whereby the Fed purchases Treasury, Agency and Mortgage Backed Securities from banks and deposits the proceeds from the sale in the banks’ accounts at the Fed.  As is demonstrated by the thick green line, non-borrowed excess reserves have increased dramatically over the past year and appear to be correlated with movements in the stock market.  We will soon be posting a more detailed analysis of the ramifications of this correlation along with how this may aid market timing.

12:13 pm EDT:  This week’s trend of stocks being unable to rally off neutral to bullish news has continued this morning as the 9:55 am Consumer Sentiment was at the upper end of expectations, yet the ES has fallen after posting a nominal new contract high (1038.75) on the open.  We are no longer looking to buy at the daily pivot (1025.50) and instead would wait for the ES to climb above 1033.00 again before attempting a long.  If the ES can move below 1025.50 with a pickup in volume, we may look for shorts, but very carefully as the markets in general appear to be consolidating for a breakout (either today or early next week). 

The nominal new contract high and reversal downward in the ES this morning coincided with a precise bounce in the 30 Year T-Bond future off the 61.8% support retracement level of this week’s range.  As we write, the 30 Year has now retraced 61.8% of the move from yesterday’s high to this morning’s low.  Gold too reversed downward off long term trendline resistance after advancing strongly earlier.  All in all, the precise technical consolidation taking place among the various markets should be a warning.  There will probably be a few fakeouts and false starts that will sucker in new longs or shorts prior to the ultimate move being made.

The Precise Take – Stocks able to bounce despite strong demand at 7 Year auction

Treasury Analysis:  We wrote yesterday that the inability of equities to make gains off bullish to neutral news this week was bearish.  However, their ability to rally in the face of the above average 7 Year auction yesterday is bullish.  It looks like the strong resistance area we noted yesterday in the 30 Year T-Bond futures is proving too difficult to traverse, and without money flowing into Treasuries for the time being, equities are able to gain. 

Time Profile:  Today is a day on which the Federal Reserve Bank of NY will be conducting Agency permanent open market operations (POMO).  The ES has been deviating more and more recently from the POMO Time Profiles, however, we believe it is prudent to be always at least be aware of the statistical tendencies.  For Agency POMO days (nearly all of which have been conducted on a Friday since June 09), there is a slight bullish bias for the day, especially from the 2:30 pm to 3:30 pm hour, with the final 45 minutes having a slight bullish bias, but tending to be more of a mixed bag as indicated by the range of Net Points (thin grey line).  The bullish bias for the day was much more pronounced from Mar 09 to May 09, but still exists and should be considered. 

Trading Today:  As we write, Personal Income & Outlays at 8:30 am has not moved the markets materially.  Accordingly, we have a bullish bias into Consumer Sentiment at 9:55 am, upon which any significant deviation from expectations will likely lead the direction of the markets for the day.  If it’s within expectations, we’ll likely have a…

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