Market Roars Back on Short Covering

The mornings key headlines are mostly negative, but the pre-market futures are up anyway. That will happen after the Naz drops over 100 points the day before.....

In Financial sector news: WM put themselves up for sale and MS is attempting to merge with another bank.....The world's largest central banks, along with the Fed, said they will pump $247b into the financial system in a coordinated worldwide intervention, so this looks like the first strong attempt by the Financial Institutions themselves to "Hold the Line." The intervention by the banks is what gave the pre-market futures a big lift.

In Employment news: Weekly Jobless Claims missed expectations by 15k, which continues the trend of bleeding off jobs. Expect the trend to continue as the Financial sector continues to atrophy companies.

In Oil news: The price per barrel of Oil has jumped back over $100, which is exactly what we don't want. However, Oil was due for at least some sort of relief bounce after all the selling recently. The current support zone is $90 - $100, so this is the area I want to see the price of Oil stay trapped for a while. We don't want to see an uptrend anytime soon.

The market is set to bounce this morning on the first major intervention by the Financial Institutions themselves. The liquidity they are pumping into the financial system is probably made possible, in part, because the government chose to keep AIG solvent rather than let it go under. One of the key areas of business for AIG is insuring financial assets like mortgage related assets, debt notes, and bank portfolios. If AIG had gone under, then all the insurance for bank portfolios would have gone bye-bye, and banks worldwide (and especially here in the U.S.) would have been required to raise their cash reserves in order to meet minimum reserve requirements. Instead, the banks now are able to pump more cash into the system to start the intervention process. We'll see if they take some other serious measures - and do it without any government money.....there's still much to do.....

I'm not looking for the bounce to last unless I see a significant chart sign that the trend has changed. We haven't had a catastrophic selling blowoff yet, which we typically see before the end of historically bad financial conditions in a major market sector (like the Tech Wreck). However, if the trend changes it changes, so I'm open minded.....

As for this morning, I'm not looking to buy puts unless I see a very clean intra-day signal. Otherwise, I may sit on my hands for at least half the day.

3:00 pm MT: Market Wrap: This was a wild, wild day in the markets. The sheer volume of news and trading activity in the U.S. and world markets was off the charts. I’m going to encapsulate the enormous amount of information in to a logical through-line of recent history and then project where we still might go in the markets near term.

But first.....Here’s a quick recap of my trades on the day: I bought and sold SPY and DIA calls for 12.5% gains, and I bought and sold IWM calls for an 11% gain. I made about $1,650 on the three trades. I also bought PRU, COF, and STI calls, which I’m holding overnight. In addition, I bought SPY and DIA calls again that I’m holding overnight. If we get a bit of follow through tomorrow, then I’ll sell ahead of the weekend and see what happens next.

Now for the Market Wrap.....

Remember yesterday I reported this news blurb? {Here is the report from Briefing: “Short-sellers will now have to deliver securities by the close of business on the settlement date. The SEC eliminated an option market-maker exception for the close-out agreement. In addition, short-sellers who deceive market participants are now committing a fraud.” The rule is designed to force traders and market makers to actually borrow shares used in short sales, or in other words to prohibit naked short selling. It also makes it a securities fraud when sellers deceive brokers about delivering borrowed shares to buyers.}

And remember the day before I posted that Big Financial institutions needed to stand up, stand together, and take creative, gutsy, dramatic steps to “hold the line” and stop looking for a taxpayer bailout? And they need to take the steps, if for no other reason, than the preservation of their own livelihood and the financial markets?

And remember how I’ve yapped over and over again this year about the emotional, frenetic, and greedy trading behavior of Hot Dog Traders acting as Hedge Fund Managers? And how many of those traders are marginally skilled at best and incompetent at worst? And how they often DON’T see the big picture and how their collective trading behavior is affecting the markets? And how HUGE the Hedge Fund Industry has gotten in the past 10 years, growing from several billion dollars to several TRILLION dollars?!!

Well, let me delineate the past several days into what I think REALLY happened, and how it affected the market today.

First: The government intervention and the Fed’s emergency measures with interest rates, loans, bailouts, and takeovers is a known quantity with traders worldwide. We’ve seen what the Fed (and government) has done, what it is doing, and what it’s probably going to keep doing. We also know, approximately, what their resources are and how much they are willing to allocate those resources. So at this point, what the Fed and the government have done and can do is somewhat of a constant for the markets, it’s already factored in.

So here’s what’s changed in the past several days, and I believe that this has been a coordinated plan between the Fed and the major Financial Institutions of the world.

Point 1: Hedge Funds are the key short sellers in the market, and the Hedge Fund Industry is huge and unregulated. There are many Hedge Fund managers that are incompetent or greedy and they are willing to short stocks into oblivion if they think they can make a fast buck.

Point 2: The Fed stared down the market and refused to pander to Big Financial Institutions by cutting rates. The Fed basically sent the message that they will continue to work with them, but financial institutions need to chip in and start fixing their own problems.

Point 3: The SEC announces that they will enforce the no naked short selling rule, which is selling to open (or shorting) stock that a trader has NOT actually borrowed. In other words, if you want to short – you HAVE TO BORROW the shares. This has always been the rule, but the SEC is threatening to prosecute violators now.

Point 4: The Fed and the government orchestrate a bailout/takeover of AIG. A big part of AIG’s business is to insure banking reserves or bank portfolios. By avoiding bankruptcy, the insurance that so many big banks worldwide have on their own portfolios stays intact. This prevents the banks from having to dramatically raise cash reserve requirements, which would create a massive, worldwide cash crunch crisis. It also give the banks some flexibility with their own current cash reserves.

Point 5: The Fed and Central Banks in Europe and Asia pumped hundreds of billions of dollars into the worldwide financial systems, making cash available to floundering financial companies.

Point 6: The UK bans short selling on any Financial stocks for the rest of the year. This starts the panic among the Hedge Funds today as they anticipate that short selling restrictions will spill over to the U.S. Right on cue, the state of New York and the SEC start grumbling out rumors of looking at halting any new short selling.

Point 7: The three largest U.S. pension funds announce that they will no longer make their stock holding available to short sellers, especially in financial stocks. These are multi-TRILLION dollar funds that are walking away from the interest that they might gain from loaning massive amounts of stock shares for short selling.

There you have it. Hedge Funds were dramatically exacerbating the selling in Financials trying to make wild (and I would say that in the catastrophic current environment – irresponsible) profits. Banks were in danger of losing liquidity and creating a worldwide cash crunch crisis. And the Fed was running out of ammo and sending the message to the major financial institutions of the U.S. and the world to step up and start helping to fix the mess. So the Fed saves AIG, which saves the banks a ton of cash, and then in a coordinated effort with other central banks pumps a bunch more cash into the worldwide financial system. Then the SEC, government, and the UK government put the whammy on naked short selling and any new short selling in financials. Then the biggest pension funds in the U.S. disallow any further borrowing of shares for short sellers, and encourage up to 60 other big fund managers to do the same.

They squeezed the eyeballs out of the shorts in Financials today. And it showed with the HUGE moves in Financial stocks. The Dow, SPX, and the Naz finished with big Hammers today on big volume. Tomorrow will probably see some follow through. ESPECIALLY since the news just hit late tonight that the SEC may indeed follow the example of the UK regulatory body and ban all short selling for a period of time. It remains to be seen how long the ban would last, and how broad the restrictions will be, but the Shorts (meaning the Hedge Funds) will probably be screaming for cover again tomorrow morning. This whole giant short squeeze today might not last too long, and it might flame out tomorrow, especially since the fundamentals in Financials haven’t changed, and because it has been such a huge short term move. But any short term pullbacks will probably be met with more short covering for awhile. We will probably continue to see a lot of volatility in the markets for awhile. Probably not like today, but enough to make me want to keep my trades short and quick as always.