Yesterday's rally was rightfully welcome by all. Everybody has an opinion of why it occurred and here's mine: An extremely oversold market waiting for some good news which it got in the CITI profits, talk of relaxing mark-to-market accounting, and changing short-sale rules. More about this below.
Expected SP500 Action
The SP500 has done almost exactly what I predicted. We've now been turned down by the GR2 resistance line from selling at the gap level. As I write, the SP500 has now dropped further to around 720 so I think it's safe to assume we have a Head-and-Shoulders Bottom (HSB) Neckline (NL) in place. The old gap resistance which was overcome (GR1) should now act as support. Off explosive moves from lows, the first uptrend line of support should be drawn ignoring the low as I've draw ST-S1 above. The two lines of short-term support we're looking at, GR1 and ST-S1 meet at a target (T) as I've indicated above. I believe that is where we'll close out the day if we don't get there before then. I want to see the the SP500 rally from there and overtake NL to confirm the HSB that will launch us up to 800. Honestly, I'd prefer NL to be less upsloping as breaking above this type of resistance is much more reliable if it is horizontal. Upsloping resistance breaks are more often false. Lastly, if we get major liquidation and ST-S1 fails, the SP500 should drop back down to ST-S2. This won't take the HSB scenario off the table but it does change the game a bit. We have an unfilled gap at yesterday's open which will tend to pull the SP500 down.
If I worked for President Obama,
I'd time an announcement supporting the proposed bank accounting and shorting rules 30 minutes before the close with the SP500 inside the T circle, or at the point when the SP500 drops five points below ST-S1. We'd be off to the races to create a couple trillion in wealth for American citizens.
I'm no Banking accountant but,
It does not make sense to me to force banks to use "fair value" accounting in abnormal illiquid markets. I agree we need a reasonable representation of the health of our banking system but a piece of real estate backing a mortgage is a hard asset. It has value even if there are currently no buyers due to panic, inability to appraise value, etc. If the house next door panic sells at a $100k discount because the seller desperately needs money to pay off a loan shark, it does not reduce the value of your home by $100k. And every home on the market is not worthless simply because due to illiquidity buyers and sellers cannot meet at a price. Even with today's uncertainty, for every home on the market, there is a buyer in the world at some price. When you buy a stock, you instantly know exactly what you're getting, what it costs immediately and in the long-term, its exact price history, how many shares are for sale and at what price. Buyers and sellers are lined up on each side of the spread and when they meet, a sale is made. With some random real estate property at auction in say Cleveland, none of that information is available to an investor in Breckenridge. That lack of information creates illiquidity. Illiquidity creates an inability to appraise true value. That creates volatility in bank balance sheets using Fair Value accounting, which finally results in Fed policy, bailouts, political arguments, etc.
Short selling is healthy and necessary but,
America's companies alter their plans when their value is driven down. These companies employ our citizens. The value of our companies have great impact on our spending. Very few feel much like buying a new car when they've lost half their life savings (Reverse wealth effect). The value of these companies will have great impact on the ability of our citizens to retire helped by their 401k investments. Reasonable limits on short-selling shares of our companies such as bringing back the uptick rule and elimination of naked shorting are needed to lower the volatility of the valuations of our companies. High volatility is only good for traders. Low volatility growth is good for the majority, which are investors.
I'm certainly not the first to support these measures but I do think these steps are basically free methods of helping us get out of this situation.
(Forgive me as I still can't figure out line breaks and the spell checker on this interface.)
