Bernanke the Magnificent? or The Amazing Bernanke?

Well, our president may not have a magic wand, but it looks like our Fed Chairman does.

This weekend Big Ben got together with his govt. cronies and they whipped up a wicked brew that is the antidote to the housing crisis and savior of all things financial. The SEC put the clamps on the shorts, the Treasury got into the mortgage underwriting business and Big Ben opened the Fed money faucet a little wider.

Hooray!??

Let’s see, that’s $30B for Bear Stearns, $8B for Indy Mac & now $5T worth of mortgages at Fannie and Freddie. I wonder if the cost of printing dollars has gone up with the increased raw material costs?

Our LD President Bush danced on the scene with an empty promise to drill the OCS for a few hundred thousand Bpd in 10 years and the world was right again.

Oil plunged, bank stocks soared. It must have brought a smile to their faces.

But is it reality? Have the finance gods truly been appeased?

First the good news. The market has now gone up violently for 2 straight days. Oil has now dropped for 3 days in a row! Techs and small caps are showing relative strength and the financials are leading the way higher. The put/call ratio (CPC) and the volatility index (VIX) have given buy signals. Sentiment is overwhelmingly bearish and the market is coming out of an extremely oversold condition. We even had a mild washout day on Tuesday with the NASDAQ showing the way higher with a positive close. Per our notes in the Public Chart List, we started entering select longs on Friday (7/11) during the Fannie/Freddie panic. We have had further confirmation with the VIX spike over 30 on Tuesday (7/15) followed by a sharp pullback in volatility the following day (7/16). Volatility closed flat today, but the put/call ratio rolled over giving its own new buy signal (7/17). While the March lows were violated in the SPX and Dow Jones, they held solid in both the Russell 2000 and the NASDAQ, possibly forming the illusive head and shoulders bottom in both. This relative strength in the riskier, more aggressive markets is something to watch.

So what could go wrong? I don’t have the space in this post, so let’s just say nothing has changed other than investor psychology. The market was scared and shorted to death and everyone was long in the oil/commodity trade. Ben, Bush and the G-men at least caused everyone to blink. Changing minds, and possibly realities, is an entirely different matter. Just breaking a few trendlines would be a nice start. At this point, this rally is nothing more than a bear market bounce. But don’t sell this bounce short as it could provide a nice opportunity for gain on the long side in something other than commodities and energy stocks.

We expect this rally to challenge the 1340-1360 area on the SPX, with additional upside to the 1400-1420 area possible on an extended recovery. Until the SPX exceeds the 80 week (400 day) moving average, (currently around 1430 and dropping), this is a bear market bounce only. We recommend taking profits in the 1340-1420 area and we will add further details to this call as available. Let’s not overlook the fact that the Dow, SPX and Wilshire 5000 all cut their rallies short today in the area of the previous lows. This is obviously resistance level number one. Equally intriguing is the proximity of the commodity indices to first level support. We will be buying select commodity stocks on this weakness as it doesn’t come around very often and history has shown these corrections to be violent but short lived.

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