- Different day, a different theme . . . yet again.
- Buyer and Seller conflict continues to the end of the week. What does it tell us?
- CPI shows the core is rising but still tame.  Sure wish I could eat and drive in the core.
- The irony of rising Michigan Sentiment
- European style growth versus US style growth.
- Don’t bet a lot against the trend, but don’t bet everything on it.

MARKET SUMMARY

The sellers put it right back in the buyers’ face.

It was a different day and a different theme in the market yet again. On Friday the stronger dollar/weaker commodities/weaker stocks theme reemerged. On Thursday it was the weaker dollar/stronger stocks/stronger commodities theme. It has been flip-flopping back and forth all week. After a good start, things took a turn for the worse in terms of stocks and commodities but not necessarily for the dollar.

The session started out looking weak, but it tried to bounce back after the open with the SP500 just about positive. Then things took a turn for the worse through lunch as the indices sold off to session lows. All of the indices were well below 1% on the day. There was an afternoon “rally,” but it was not much of one. It was a steady relief move up off the lows, and even it tailed off in the last couple of hours. That left the indices down sharply. NASDAQ, -1.2%; SP500, -0.8%; Dow, -0.8%; SP600, -1.3%; SOX, -1.4%; NASDAQ 100, -1.2%.

Looking at the daily chart, it was back and forth since the start of the week. The old theme from two Thursdays back has reappeared on an every-other-day basis. That theme is a stronger dollar and weaker commodities that saw gold, oil, and silver dive. That kept the market stagnant for the week, unable to close above the February high on both SP500 and the NASDAQ.

The old buyer-versus-seller conflict continued through the end of the week, and it did not resolve the rubber match week. This was the week where we wanted to say we had a nice up run, we had the pullback to test that move, the breakout above the February peak, and then we were going to have the rally back up to the upside that should have continued the rally. It was all good through Tuesday. Nice move on Tuesday, although Monday and Tuesday did show low volume on the upside. That was a concern, but they still broke above the February high again and looked solid. Then the old theme reasserted itself. The dollar rallied and commodities and stocks sold on Wednesday. On Thursday the dollar started stronger, but it turned weaker and stocks rallied. Then Friday we had the problem again with the dollar moving back up and everything else moving back down.

Typically when the dollar would move higher, stocks would move higher. A strong dollar reflects strong economic growth; that reflects good earnings by companies, and that would support stronger stock prices. These are not normal times, however. There has been too much tinkering by the Federal Reserve and the Treasury Department. After all, we have run up $14T+ debt. There are a lot of skewed relationships. They are skewed to the point of inversion as seen in the dollar and stock relationship. One thing we do know is that these abnormal, inverse relationships will ultimately revert back to normal. The problem is that getting there often causes a lot of stress, angst, and a lot of pain.

The Federal Reserve views the inflation pressures as transitory. Those are Bernanke’s words. In the bigger picture they likely are transitory. After all, in the 1930′s, Germany’s hyperinflation was transitory. It did not last forever, but Germany’s economy had to collapse before that hyperinflation became transitory. That is what I mean by a lot of angst and pain when transitory imbalances revert back to the norm.

We are trying to resolve a debt and credit crisis by creating more debt and credit. You may think that is crazy and it cannot work. Maybe the government is taking the view of curing an alcoholic by giving him all the alcohol he can drink. He either gets sick and stops or he will die. Maybe the government wants the economy to die so it can reset and start back over. I am just speculating. I am not a conspiracy theorist in most instances, but it is hard to understand what the government is doing.

What is likely happening is a race against time. They are hoping against hope that the economy will catch hold and really start to run. I am not just talking about the big multinationals (the only ones making real money right now), but small business as well, the real guts of our economy. They hope it will catch and run and create real wealth again before we reach the point of hyperinflation. It is a dangerous gambit against time.

What makes it even more frightening is no country in history has ever been successful doing this. Of course we are smarter and know what we are doing this time, so we will be able to pull it off. That is what we are told and are supposed to believe. Maybe it is too far gone to do anything about it. We are told we should not worry about raising the debt limit. We are told it would be irresponsible to do that. We are told that a lot of the cuts that are being offered are simply too small and will not make a difference. But if we do not show the world that we are at least trying to do the right thing, then we will never get there. Well, we will get there, but it will be more like Germany in the 1930′s than the scenario of just working our way out of it that the federal government is trying to spin.

Maybe we should not raise the debt ceiling. Maybe we should say will not raise it but will cut spending. We will pay all of our creditors, as we always do, but we will just not spend. We will start making the hard choices that only get kicked down the road further when you raise the debt ceiling. But I digress.

I want to talk about what this back-and-forth action meant on the week. What does it tell us? For one, all of the indices are holding their bigger uptrend. Indeed, SP500, NASDAQ, the SP600, and the Dow 30 industrials are all holding a nice uptrend. They do not look to be in danger. The Dow looks perfectly healthy. Odds are there is nothing wrong with them. We have a lot of liquidity out there. The Fed is still saying it will continue to put more liquidity in the system   or continue it in a different name. As long as the money is there, it tends to drive the stock market. Indeed, that is what has driven it up to this point.

A big positive is that the market is still holding the uptrend. We also have some high-quality leaders that are performing just fine, although there was some erosion on Friday. AAPL broke below its 50 day EMA with a rather sharp move. CAT had a nice doji at its 50 day EMA, but it showed an engulfing pattern to the downside on Friday. When market leaders are starting to roll over and show these engulfing patterns at a key support level, you have to take a bit of pause. Overall, the quality stocks are moving quite well, however.

What is the other side of the coin? We have to look back at what happened over the past few weeks to put it in perspective. We had the rally, an inverted head and shoulders, a breakout over the February high, a test, and then a resumption of the breakout move. That is where everything stopped. It simply could not continue on with the breakout. There has been no follow-through to this point. Instead you have back-and-forth action like a tennis match. The buyers come out and hit stocks higher one day, and then the sellers slap them right back down.

We have no follow-through and the inability to continue the breakout. We have sellers that have become equally powerful as the buyers. There has been no headway over the past two weeks since the peak. The sellers are matching blow-for-blow with the buyers where the buyers have been in charge before. Now that does not seem to be as clear.

We also have quite volatile action. The VIX is not surging higher. It is still holding down in the bottom of the range. What I am talking about is the day-to-day volatility where there are not big moves up and down in the range, but there are big moves day-to-day inside the large range. It is unsettled. There is not one side in charge, and it is occurring on some higher-volume. The selling was on higher volume, the rebound was on low volume. Over the past three sessions it has been decent volume as the buyers and sellers traded blows. We have volatility. After a long run, volatility typically spells selling. Or, if you have had a downtrend, it typically tells you a turn is coming.

In December through February we had a long, straight run with barely a hiccup along the way. There was volatility in late February and early March, and then the volatility resulted in a selloff. Now we have a strong run again that broke out of the pattern, a pullback to test, and now volatility. The point I am getting at is that volatility suggests change is coming, just as storms usually accompany the change in seasons. There are steady, cool temperatures in the winter. When things start to warm up, the air moves and cold air masses start hitting warm-air masses. The next thing you know, you have volatile storms. When the summer gets here, things settle down into another routine summer pattern. When the fall comes around, northers come blowing down and jumble everything up. Then the action gets a little wild again. Volatility signals that there could be change. Thus far the trends are holding, but we see volatility. As in February and March, that can lead to some selling.

We have both sides of the coin. There was no answer this week to the rubber match, but the fact that there was no answer to the question makes you to take notice. The buyers were caught by the sellers and could not shake them. That tells us a few things. Do not load up on any one upside position. Do not get overly aggressive with any one particular play. Keep good stops in place and start looking at the downside plays as something of a hedge. We have some we are in right now. The SPYders, the QID, and a couple of other downside plays on individual stocks. Volatility is a sign, and you need to pay attention to it.

Volatility will either have to subside in a consolidation or be convincingly defeated by the current trend. That would mean a strong break to the upside on good volume that holds with follow-through. That would put to rest any of the worries that the sellers have been throwing at the market over the past two weeks.

Again, this week did not answer the questions. It deferred to next week, so we will have to see what happens in the coming week. You know the saying, “Sell in May and go away.” The volatility has a lot of heads talking about what could be a selloff ahead. Why? A strong rally, a good base and breakout, but it is unable to follow through thus far. It is important to note that the breakout did not go anywhere. This was a nice, long rally. We have a base, but it has not done anything with it. That tells a story in itself. You do not want to bet heavily against the trend, but you do not want to bet everything on the trend right now given the action.

MONDAY

There will be a lot of news out next week. Several of the regional manufacturing reports will hit, starting with the New York PMI on Monday. Then there are other important numbers such as housing starts and capacity utilization. FOMC minutes come out on Wednesday. Thursday we have initial claims, existing home sales, and the Philly Fed.

All important, but we have to look back at what the market is doing and everything I have talked about to this point. We are at a point where the trend is still in place. You do not want to say the trend will break simply because it is struggling. It has done this before and has not broken at all. Back in November and December of 2010, it struggled and broke higher in nice, strong runs.

We have a few more issues on the table right now. We are seeing some leadership crack and break lower. We are also seeing a solid base break out, but it has been unable to deliver any serious follow-through to the upside thus far. As I said before, it is a time where change is trying to occur. When change is trying to take shape, it does not behoove us to rush out and continue with necessarily the same approach that we have been using when the market was solidly moving higher or looked to be solidly moving higher again with a breakout.

Do not necessarily bet against the long-term trend   at least we do not want to bet a lot against it yet. We do not want to bet everything on the trend continuing either. We know that markets change and trends change. We are seeing the signs that there could be change in the air with the day-to-day volatility. If we see good upside plays, we will still give them a good look. We will still pick up some positions in them, but we will also give more and more looks to the downside because leadership is turning over.

As noted, we have been taking downside positions as they present themselves. They show up, and you take some of them when things start to look a little uncertain because they can turn out to be good winners for you. We may come up with some more, and I have already pointed out some that could be downside plays for next week. The market has not answered the question as to what it will do yet. Will it resume the uptrend or maybe pull back again a bit deeper? It is occurring just on the heels of a break out of a base that did not get a lot of gain on that initial breakout move.

There will be a lot of news next week, but I do not think that will be the driver. It could be a catalyst that breaks the buyers out of their funk. They may think things look good and buy. But with the dollar still rallying, breaking through the 50 day EMA for the first time since January, you have to take that into consideration. Again, you do not want to bet a lot against the current trend, but you do not want to put everything on the line for the current trend either.

We are in mid-May. The market may already be starting to factor in the end of Quantitative Easing II. The Fed said it would maintain its balance sheet as it did before the end of Quantitative Easing, but that is not exactly the same as saying it will continue indefinitely, no matter what. It does suggest a tightening of the policy. Maybe the market is starting to read that in, and that could be driving the dollar higher. Of course, that should also drive interest rates higher and bonds lower, but it is not doing that yet.

There are a lot of factors in the mix. A lot of irons in the fire. I am trying to use as many metaphors as possible, but you get the point. There are so many variables right now. There are those who look at one of two of them and draw broad conclusions, but that is foolhardy. They may be right, but they may be very wrong. It is hard for anybody   or any machine   to analyze all the variables right now and come up with any particular, rational course.

We will do what a smart person and a good trader does. We see some change, so we will take some off the table. We have been doing that, both on the upside and with trading stops. We are lightening the load right now. We are starting to branch out with some downside plays, too, for a little hedging. We will just be smart. We do not always have to be fully invested, and we are not right now. It is just a natural occurrence. As the market has rallied, we take gain off the table. As it tops and some stocks struggle, we take gain off the table because we pull the stops up. We are a bit light, but that is good. We are more agile and we can move. We will not get caught in anything too deep.

We will be ready. We will have a bit of downside and a bit of upside, but knowing full well that the “Big M”   The Market   will have the final say in what we do. The trend is holding. The trend has been our very good friend on this move. At some point it will change. Maybe the end of QE II is factoring in and some the buyers are not being as aggressive and the sellers are being more aggressive. Will that necessarily be the end of the rally? No. The Fed has been clear that it is going to keep providing liquidity, and I guarantee that as soon as we have any trouble, the Fed will pump more liquidity into the system.

The Fed’s game plan all along has been to inflate the value of financial assets. That makes consumers and citizens in general feel wealthier and want to go out and spend more money and, hopefully, jumpstart the economy. It has not happened so far. At least not on a broad scale outside of the multinationals that got a lot of the stimulus money and sell a lot overseas. The Fed cannot afford to let it collapse. This is Bernanke’s big case study of the Great Depression era and how he would have solved things versus what the central bank did at that time.

He cannot afford not to extend more Quantitative Easing if things get in trouble. At the same time, he has to deal with reality. While maybe he cannot afford to let things get out of control without more Quantitative Easing, he may not be able to help it. We are $14T in debt and our dollar   until the last week   has been in dire straits. His hand might have been forced on it, and it may still be forced. We always have to worry about those unforeseen events that hit while the government is in the process of major tinkering with the economy.

Remember, the Fed is tinkering, the Treasury is tinkering (I say “tinkering,” but they are in it deep), and the administration is tinkering with its manipulation of labor markets and where companies can open new plants, etc. There is a lot of nudging and manipulation going on behind the scenes. Everyone has their own agenda.

Where this could end is somewhat worrisome. We just have to take care of ourselves. We will watch what the market is doing and will be cautious. We will take advantage of opportunity, upside and downside. Be smart and keep stops appropriate. When the market shows us which way it will break, then we will move in. I will posit that it will break pretty big when it does break, whether to the upside or downside. I will admit that I am just not smart enough to say which way it will go. Why? This has never happened before. We have never had this kind of debt or this kind of intervention.

There great unknowns here, but we do know that one day, when it does revert, it will revert big. It may not be right now, or for a month, or it may not be for years. I am not smart enough to know that, but I am smart enough to look at the market and see some leadership breaking down. I can see intraday volatility and the bonds rising when they should be falling. That tells me that something is up.

We will just play it a little closer to the vest, be smart about it, and keep a lot of that money we have made. I will see you on Monday. There will be a lot of news and a lot more excitement. We will see what the market shows us.