Weekly Preview: Nov. 8-12

November 7, 2010 Leave a comment Go to comments


Heading into last week, despite bubbling optimism for stocks, consensus had grown widespread amongst market participants, even in the bull camp, that profit taking would set in once the FOMC outlined their intentions for QE2 (sell-the-news). Indeed, thus far, this has not been the case. Financial stocks have benefited the most, shooting up over 5.5% during the two days following the meeting. The size of the LSAP program was within market expectations, however, the average maturity of the new purchases was not. The average maturity will be between five and six years; thus putting the curve steepening trade back in play, helping boost bank's profitability.

At some point this week I expect weakness to develop in the 'risk trade'.  I am by no means calling for THE top to take place, but risk appears to be strongly favoring a pullback. On two prior occasions during the month of October I anticipated a pullback in equities, but to no avail. This time, however, the market is demonstrating signs of "blowing-off" with the most recent surge appearing to be coming from capitulating bears and panicky bulls. The S&P may hold below the top-side of the multi-week rising channel, providing a backstop for bearish bets. Once markets pullback, we can access the damage and get a better idea as to whether the pullback is the beginning of a larger reversal or simply a healthy correction.



Commodities have been the hottest game in town. Both industrial and precious metals have been racking up huge gains while agricultural sectors have been acting simply outrageous. Cotton and Sugar have been leading the speculative frenzy with price charts bending back to the left – registering multi-month percentage gains in the triple digits. For those with the intestinal fortitude, a high yielding short set-up is in the making.

In the months to follow, it will be interesting to see how much of an impact the rising cost of raw materials will have on profit margins. To what extent will businesses be able to pass through rising cost to a consumer stuck in a balance sheet recession? This will be, to say the least, an important development to pay to attention to. If the economy can take the torch from the Fed and grow on its own, then this may turn out to be a non-issue, however; if the economy continues to muddle along then an unintended consequence of QE2, squeeze on profit margins, could rear its ugly head. As they say – only time will tell.


On Friday the Dollar Index (DXY) bounced off a long-term trend-line. My bias since mid-October, based on historically extreme pessimism, has been that the downtrend in the Dollar is closing in on a reversal, however, price action — the final arbiter — has yet to cooperate. From a pure risk/reward viewpoint, establishing a long position off the long-term trend-line makes a lot of sense; regardless of the outcome. Presently, I am leaning towards short positions in EURUSD, GBPUSD, and long positions in USDCHF, and possibly USDJPY. I will follow up with more details surrounding these pairs as the action unfolds.


Interest Rates:

I don't see a particularly strong edge in making any moves against the short to intermediate term maturities, however, a rally in rates would be consistent with the before mentioned biases. The 30-year could become an interesting trade in light of the fact that the Fed isn't going to be focusing their purchases on the long end of the curve. A bearish topping pattern is in the cards for the 30-yr futures (US) which will further support this idea.

Bottom Line:

Dollar bullish trades look to hold very favorable risk/reward opportunities as long as the long-term trend line holds. In addition, purchasing puts in Index ETF's, considering how inexpensive volatility is, looks like a solid risk/reward play off the upper band of the rising channel. Also, on the radar are a pair of short set-ups in individual equity names –NFLX, LVS — click here for the NFLX trade outlined late last week, and check out the chart below for details regarding LVS.





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