The major indices continue to deteriorate.  Unless you are short, few can claim to have made much money this week.  In fact, June is on track to be one of the worst months for the U.S. financial markets since 2002.

Could things be worse?  Well, there appears to be a stealthy mix of good news and horrible news.  PCE readings were tame - well within the comfort zone of the Federal Reserve.  However, food and energy costs are off the charts, in terms of year-over-year growth.  Many analysts and market observants rightfully cast shadows on the Fed's convenient exclusion of headline inflation figures.  This same crowd fears for a recessionary dip following the euphoric spending spree induced by the Bush tax rebates.  This author personally spent his family tax rebates within 24 hours of receiving them - so I can say we have done our patriotic part.  After all it costs a lot to fill up the gas tank.

The markets are grossly oversold.  That being said there is nothing in the rule book that states that we have to bounce - or that any rally will be much more than a temporary reprieve, to work off the oversold state. 

Digging a bit deeper, however, lends credence to the case that a strong rally is in the cards.  The S&P Financials Spider ETF (XLF), has grossly lagged this year much in part thanks to the credit debacle.  However, even it has extended below the lower boundaries of its descending channel.  To the technician, this spells almost imminent bounceback.  And a snapback rally in the financials will almost certainly spell a bounce in the broad market. 

Does this matter much?  Not really.  Not unless you are a trader with the shortest of time frames.  Investors have become hard-coded to avoid financials and retail.  Every time they try, they get beaten back down.  It is hard to imagine anything fundamentally changing on that front either.  Yet.   

However, not everything commodity-related is working as well as one might think. The Oil Services group (OIH) is in a choppy consolidation, and steel and agriculture stocks have begun to see distribution.  This crack in the plaster is perhaps a sign of something bubbling under the surface, and I'm not talking about more crude oil (although it certainly could be, after all, that remains the trend). 

This noticeable divergence between oil stocks and the price of crude is worth watching.  When groups that should be rallying don't - even in this horrible tape - it means points of inflection are afoot.  With the bleak landscape growing bleaker by the day, in terms of the sheer number of investment dollars evaporating, there may be a silver lining on the horizon, though few dare to speak about it - which leads this author to believe the probability of the event to be increasing.  And that silver lining is not going to be good for commodity stocks.

That event is government intervention.  The Fed is out of bullets.  With the market declining, their hands are tied.  The dollar is tipping over, again.  The Euro Zone is in deep trouble with declining growth ahead and inflation bug-a-booing their Central Bank chieftains.  A stronger dollar is about the only thing that could put a floor under the financial markets, stymie the commodity trade, and fundamentally weaken the Euro in such a way as to actually make a difference.  Further consider that the market is not thinking of it; record number of market participants have moved to cash; and there is no fear to suggest a market bottom.

At any rate, this is all speculation.  No one can count on a market-saving rally spurred on by government intervention just as no one can really expect the market to nose-dive when everyone is expecting it.  Yet, one must ask themselves: is there really any other outcome?  Do western governments have any other choice?  Usually when faced with no other options, you receive a guaranteed result.  Nonetheless, in the near-term it is better to trade the market that you have instead of invent a new one, and that market remains one in which you keep cash levels high and your eye on key trends.

Speaking of which, on the technical front, gold finally made its move.  As mentioned last week, above 92 and gold is a strong buy.  As is, it broke from a consolidation pattern known as a wedge, and on decent volume.  As the banking index continues to decline, gold should begin to play catch-up, as it is the pre-imminent "crisis currency" of choice.  Yes, there are a lot of gold bugs out there.  But not so many as their were earlier this year.  And most people, to my amazement, still harp on television about how gold "shouldn't be rising" in this environment.  Oh, really?  How so? 

Inflation is a concern.  Check. 

The Euro Zone is more likely to raise rates than the United States, meaning our rates would actually be lower by comparison.  Check. 

All commodities are rising.  Check. 

With the exception of this past week, as it has seen a flight to safety, the long bond has been getting killed.  Not sure what the argument against the shiny yellow metal is, but from a contrarian point of view, you have to like the fact that few people are promoting it.  And at a time when it should be viewed more favorably. 

Given the oil-to-gold ratio is at near-historic lows, it seems to be worth a look.  But be careful about gold stocks.  The bullion is likely a better buy.  Gold stocks historically have done horribly when the market melts down.

As for the broad market.  There should be just enough shorts dog-piling on now to be forcefully "shaken out" by a nice one- or two-day rally.  As such, taking profits on index shorts seems the wise thing to do.  There will likely be an ample place to re-short in the near future, assuming the fundamental picture doesn't change overnight. 

As for materials stocks, you have to love the fundamentals, but notice that some of those high-flying momentum names have started to show signs of cracks?  Probably not time yet to short the group, but the trade is becoming more equalized as of late. 

Keep your eyes open and your wallet full.  This is increasingly becoming a market that is far more interesting to watch than to trade.

Disclaimer:  the author maintains a streetTracks Gold ETF (GLD) position via call options and bull-call spreads.  As of the time of this writing, recent positions in the UltraShort S&P 500 ETF (SDS) or UltraShort Nasdaq (QID) were closed.

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Bryan Bigari

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