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Financial Sector, Heal Thyself

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Bank of America came to Countrywide's rescue last night. Has it come to the market's rescue, as well?

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Is that an invisible hand in your pocket, or...?

The Fed came to the market's rescue Friday. Of course, markets had already rallied considerably off of last Thursday's low before Friday morning's discount rate cut. Since then, the gains had held up and firmed further on anticipation of another cut.

BofA (BAC) came to Countrywide's (CFC) rescue last night. Has it come to the market's rescue, as well? It would seem that way, since futures surged sharply on the news. The reaction was predicted by the Ascending Triangle forming since last Friday. And the reaction is well-deserved since it indicates that the private sector is adapting to the new environment.

To the extent that that is true, then BofA is fulfilling the Fed's role of providing liquidity. Targeted liquidity, no less, which seems to have been the Fed's goal by sending its message via the discount rate.

While the market is reacting to BofA's own intervention and anticipating similar intervention from other industry players - indeed, reacting to yet further evidence that capitalism always finds a way! (Ahem, you may now retake your seats...) - the rumored rate cut that held up the market since Friday has become diluted. Not that one intervention is better than the other for the current predicament. Although, personally, I generally favor the invisible hand over the heavy.


There's no free dinner, either, but the buffet is free on Fridays.

My point is that this is a paradigm shift, and paradigm shifts aren't free. A section of recent buyers was sure to exit their positions simply because the story has changed. This selling pressure is self-fulfilling as newer buyers crouch down to absorb the supply. I'm not referring to the S&P's complete retracement of its overnight high from 1484'00 back down to 1466'00, but a much more substantial correction of the past week's rally.

And that's the bullish scenario. There are two bearish scenarios, and they differ only by whether today's opening surge marks a top (which seems to be the case). A higher high tomorrow that is maintained on a closing basis would extend the past week's rally, and its retracement of the past month's decline. Simply reversing down from here would either bottom upon correcting the past week's rally, or else resume the decline to new lows.

So, which is it... correct the past week's rally, or resume the past month's decline? The title of Minyan Mike Santoli's Streetwise column in this week's Barron's probably says it all: "View It as a Mere Bounce -- for Now." (The article is worth reading, too, of course.) This morning's profit-taking is viewing it that way, too. For now.


Context-Ultra-Sensitive

Suffice it to say that technically the lows will need to be retested, and hold. There's that, and the aforementioned Ascending Triangle, which is of a "complex" nature. This means the triangle's upper-end horizontal resistance developed under the prior high (Friday's spike up on the rate cut) - this didn't change the likelihood for a break higher, but it does doom that break to failure. Again, failure far beyond today's opening drop.

Second consecutive gaps up tend to be excellent confirmation that a trend remains underway. That's when there's already trending in that direction, and there might be a concern whether sufficient liquidity exists to continue pushing price higher. However, Thursday's second consecutive gap up is appearing under prior high, and in this context the gaps reflect a mass psychology fear of missing the "bottom." That sort of optimism isn't bullish.

The S&Ps overnight high should still be retested during regular trading hours. Not necessarily today, and probably not this week if S&Ps haven't bounced back above SPX 1467.25 (ESu 1471'00), the past week's lows, by late-morning. Simply extending down today deeper into negative territory would be more constructive of the bullish scenario - it's counter-intuitive, but the rally could refuel and get a healthy dose of pessimism.

That's why I'm not expecting this morning's drop from overnight highs to get out of hand. But that only speaks to timing. Having established what the past rally is, now we're only haggling over price.
No positions in stocks mentioned
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