The Week Ahead

The market has been stuck in a narrow trading range this week as investors await major catalysts ahead. There have been a few events this week that could have shaken equities free from this range, but they didn’t have enough pull in comparison to some events directly ahead. Technically, I could paint both a bearish and a bullish picture. There have been some technical signs that show the formation of an intermediate bottom, but the headlines out of Europe will be the winds that guide the market’s sails from here, not technical analysis. It will take a catalyst from Greece, the Federal Reserve Bank, and/or the EU leaders summit later this month to set a new course for the markets.

We had a decent amount of catalysts this week. They were:

• Spanish Bank Bailout
• Chinese Trade Data
• U.S. Retail Sales
• Euro Industrial Production down 0.8% in April
• U.S. PPI and CPI – both dropped
• Moody’s slashes Spain’s credit rating to just above Junk
• Italian bond auction

None of the catalysts above were enough to set the market in motion this week. Starting off with Monday, we got the Spanish bank bailout of €100B that completely overshadowed the trade data from China, which was spectacular. The market reaction to the Spanish bank bailout over the good China trade data further reinforced how important Europe is to the equity markets. The U.S. retail sales report was a bummer and so consumer discretion stocks fell on Wednesday. Sales came in below consensus and there were downward revisions to previous months. Oddly enough, consumer discretionary stocks bounced back on Thursday, so no market motion there either. Moody’s slashed Spain’s credit rating from A3 to Baa3 (just above junk) causing 10-year yields to spike to 7% today and settle around 6.92%. Moody’s warned that Spain will have very limited financial market access. Despite the downgrade, the Dow Jones Euro Stoxx 50 index closed flat on the day, which is down 17.5% from its highs in March.

Looking at the S&P 500, we’ve consolidated after the horrible month of May. Short-term buy signals have been triggered with RSI divergences at the bottom, a MACD buy signal, and recent top in the VIX near 28, and broad rally last week on Wednesday when headlines hit the European Stability Mechanism (ESM) would be used to inject funds into banks directly.

Bullish Scenario

Source: StockCharts.com

Bearish Scenario

Source: StockCharts.com

I wanted to show both the bullish and the bearish technical case for the S&P 500 to show two things. 1) The technical picture isn’t clear. An Intermediate-term and long-term sell signal was triggered when the market created a top in May as I wrote on May 17^th. So far, we have positive signs that a bottom is forming, but the bottom hasn’t been confirmed by a move above 1335. If that level is taken out, the market will be treated to a more substantial rally as fund managers act accordingly with large cash levels. Sentiment indicators tell us that fund managers and retail investors are not prepared for a rally and will be caught unawares if 1335 is broken to the upside. 2) To show that we need to depend on Eurozone and Central Bank headlines in the two weeks ahead.

The events investors will want to look forward to and be ready to react to are the following:

• Sun, June 17 – Greek vote.
• Wed, June 20 – Federal Open Market Committee Meeting
• Thurs, June 21 – Flash PMIs from China, Europe, and U.S. – the first June economic numbers. Major economic day
• Informal EU leader meeting between Merkel, Hollande, Monti, and Rajoy ahead of the big meeting.
• June 28-29 full EU Leaders Summit

Bankers, Politicians, and Investors…Oh My!

The Greek vote is a large unknown and the market doesn’t like uncertainty. Regardless of who wins, based on austerity losing momentum in Europe, both parties will ask for a better deal than the March agreement. If Europe says no or the deal isn’t good enough, Syriza is more likely to exit the EU than the New Democracy party. There were some rumors today that the ND party was in the lead based on some gambling websites and unofficial polls according to CNBC. Due to the news, Greek stocks rallied today and stocks closed flat in Europe which wasn’t bad considering the Moody’s downgrade on Spanish debt last night.

The other big event is the Federal Reserve meeting next week. Most analysts do not believe this is the announcement for QE3 given we’ve had no real language buildup except for the incremental change in the minutes for April which showed more governors were considering easing of some kind. Likely, it’s possible we get an extension Twist which is supposed to conclude this month. It is very likely we’ll hear a downgrade in the verbiage used to describe the current state of the U.S. economy due to weakening PMIs, jobs data, and falling CPI. Gold is already leading well into next week up in the 1600s again after the take down from Bernanke’s speech last Thursday. Gold has been up daily since that event.

Late next week we’ll get the flash PMIs from June for the major players: U.S., Europe, and China. These numbers have been incredibly decisive in charting the course of the stock market. They started to decline again in Europe around March and equities haven’t had a chance to breathe. Even if we have some surprise stimulus from the Fed, the June PMIs will be important and cyclical stocks will react accordingly.

Finally, Europe will have some critical meetings ahead this month to form a new banking union. They need a new strategy to contain their debt crisis as piling on more debt doesn’t seem to be fixing the problem! Recall that the market rose 2% or more on Wednesday last week when mentioned the ESM would be able to inject cash into banks directly, but to do that, we’ve got to get through a long ratification process. If you recall last year, it took a long time for the ESM to be formed due to this process. The EFSF was a bridge to get there. In much the same way, we could get a short-term oriented bridge out of the EU leaders summit until each country can ratify new laws. There’s been talk of a European Redemption Fund to act like an interim Eurobond. In addition, there’s been talk of a Pan-European bank deposit guarantee fund. In the past, the equity markets have rallied leading into these leader summits. Investors were often disappointed with the result as politicians kicked the can down the road. The question is will this time be different? I plan to spend more time on this issue in next week’s Market Observation as we get closer to next Friday’s informal meeting.

To Grexit or Not to Grexit, That Is the Question

There is a lot riding on the events of next week. Because so much investor sentiment will be dependent upon the results of next week's meetings and interpretations, it wasn’t likely we’d see the market move very much this week. We’ve been trading in a tight range after last week’s rally which is probably the best outcome we could have asked for given sovereign debt yields continue to rise and economic numbers have been mostly light here in the states. I can’t tell you the outcome of future events, nor can I look at a chart right now and tell you, this or that is going to happen. I have two scenarios charted. If something gives way and one of those scenarios begins to take form, I have a plan given either situation, and so should you. Not knowing which events are happening and when could put your portfolio at a serious disadvantage. So it’s good to always be training your mind to go through the possible outcomes and scenarios to plan ahead. You know the saying, “People don’t plan to fail, they fail to plan.”