Zeev's Turnips Patch-No Politics (ZEEV)

[Just_The_Facts]

The Alchemists
There is a growing view globally that the unnatural phenomenon of today’s crazy markets may be the work of government alchemists. Most readers are familiar with The Washington Post story written years ago about the Plunge Protection Team, a committee formed after the 1987 stock market crash made up of the President, the Secretary of the Treasury, the Chairman of the Fed, Comptroller of the currency and large Wall Street firms such as Goldman Sachs, and Merrill Lynch. Their purpose was to stabilize the markets in periods of uncertainty. Unstable markets pose a risk to a leveraged financial system. More recently after the Asian crisis of 1997, Russian debt default and LTCM in 1998, experts gathered again to discuss the vulnerability of U.S. financial markets. The purpose was to derive a response to head off the potential of a highly geared financial market from collapse, especially today with the advent of derivatives, which had the potential to bring down the whole financial system as LTCM nearly did in 1998. Experts studied markets and found four potential crisis accelerators: 1) Leverage 2) Forced selling 3) Momentum mood swings & 4) Loss of confidence

Any one of these factors, if unstopped, could trigger a nuclear detonation of our financial markets. The incredible amount of leverage in today’s financial system through the use of derivatives could bring down the whole system by one hedge fund simply ending up on the wrong side of a trade. The system is even more leveraged today than it was in 1997 or in 1998 when similar events nearly caused our financial markets to collapse. The other problem is when markets are so highly leveraged or geared as they are today, falling markets and program trading mechanisms automatically trigger additional selling which then begins to snowball into a crisis. Once you reach the severe crisis stage, you then begin to lose confidence, which sets off a panic in the markets and you end up with a crash that could be so severe that the markets never recover, which leads ultimately to depression.

This is where we are today. Our markets hang by a narrow thread that threatens to implode. The economy and the financial markets are highly leveraged and can’t afford a crisis or the whole system collapses. That is why, in my opinion, you see markets rally on the basis of new rumors that seem to fit nicely as a cover for intervention in the financial markets. Intermarket relationships seem to be out of whack, and knowledgeable experts are scratching their heads in an effort to explain away the markets’ actions. Bulls seem to have no problem; for them intervention or no intervention, there is always a reason to be buying stocks valuations or poor earnings aside.

When viewed from this perspective, the unnatural phenomenon of the markets make more sense. On days when economic reports such as the trade deficit, the unemployment report, housing starts, and retail sales come in poorly, the markets plunge only to rally at the end of the day. Poor economic reports are often accompanied by sales and earnings warnings and more job layoffs, which also trigger rallies. I believe what is happening here is the prevention of drawdowns, or the effort to prevent losses from spiraling out of control. Because of the very nature of leverage today, it wouldn’t take more than a few leveraged hedge funds or major money center banks to be on the wrong side of a trade to collapse the whole financial system. Equally important is to avoid accelerated selling. Once accelerated selling begins, it takes on a life of its own and could then easily become unstoppable. As you review the charts below, you can see where the markets have been, and where they have been recently. After peaking in 2000, the markets have been falling down the mountain. I believe a decision was made last summer to cap the losses and keep the markets contained within a narrow trading range. Specifically, an imaginary Maginot Line has been drawn at the head and shoulders neckline of the S&P 500. The same holds true for the Dow and the NASDAQ.....................

http://www.financialsense.com/Market/daily/tuesday.htm