$JPM earnings yesterday morning left much to be desired.  Their investment banking unit is having issues and the flow on their trading desks has been very light.  On the bright side, their consumer business is getting healthier, Jamie Diamon has done a good job at limiting the damage there during the financial disaster.

The case of the financial sell off this morning was specifically in $BAC and $WFC.  Bank of America and Goldman Sachs report earnings on Tuesday morning before the bell.  Frankly I think the $BAC earnings are going to be horrendous and I have no clue why anyone would be invested in this company right now.

Now that the government perceives the big banks to be relatively healthy again, or at least able to muddle through, they are going to do everything possible to turn the screws on them.  That may eventually include charging them to keep deposits at the $FED.  On a trading basis, I see no reason to be long these banks either, their charts don’t set up well.

As for Goldman, they will continue to make a good deal of money, and I don’t think their investment banking unit will fare poorly, but trading volumes are down across the board, and they were forced to shut down their principal strategies unit (prop trading), which will significantly effect their profitability.  Goldman Sachs is, in a sense, one big hedge fund with an advisory arm, when you get rid of the hedge fund part, well, it’s just not the same business.

So will the financials drag the rest of the market down here?  I don’t think so, they may hold the market back, but I just don’t see the sector taking this market significantly lower.  It’s hard to see the financials crashing, we know the issues that are out there, they aren’t secret.  I don’t see a lot of fast money in these stocks, so you’re not going to get a huge liquidation there.  My one worry is that eventually the big boys wake up, realize that their investments in these names aren’t going anywhere while QE2 takes place, and they liquidate.  If that happens my question is, will that money go to cash, or will it rotate into other assets?  I’m guessing other assets, holding cash right now is not smart in the face of the $FED’s policies.

So in conclusion, bank earnings will be pretty bad, their businesses are having a hard time in this environment, I wouldn’t touch them on the long side for more than a few hours with a 10 foot pole, but I don’t think they will infect the rest of the market enough to cause real damage.

My ultimate target for this rally off the February lows has been 1230, although I did think we would have seen more of a pause or pullback at 1200.  Guess what, we’re pretty much there, the $SPX hit a high of 1214 yesterday before putting in a very bearish doji candle.  I began to take risk off the table yesterday afternoon as I believed everything was just way too extended, profits needed to be booked.

And then the Goldman news struck today.  We’re currently down great than 1.6% on the $SPY, not quite your garden variety sell off, but in the scheme of things, not really a big deal.  What is a big deal is that the news market is back in full tilt, and it comes at a time when technically we should start to see major resistance in the equity markets.  So, it’s time to take some more risk off the table.  I have pared back exposure today, I’m now +25% in cash after adding a long position in $SWKS today.

Here’s what I’m looking for.  The $SPY will rally back up to the declining 5 day moving average over the next few days which can be found around 120, at that point I will watch very closely for resistance and a roll over.  If it fails that level, I will be a big seller, pulling exposure back to around 40-50%, possibly less.  That type of action, a lower high, could mark the end of this rally and a signal that consolidation if not a major pull back is upon us.  I was always taught that you make your living by collecting alpha in down markets by playing defense and striking hard and fast when the market is healthy.  It is now time to get defensive, I’ll be watching a failure of the 20 day moving average very closely as well.

It’s not the news you should be paying attention to, it’s how the market reacts to it.  The market is obviously spooked, and if a negative feeling about Goldman Sachs $GS persists beyond a few days, it will put a vice on this market.  More on the news itself late, just because I love bashing idiocy.

The falling wedge patterns on the indices are extremely bullish, and if Goldman Sachs $GS and Citibank $C can recapture 160 and 3.50 respectively, the market should be off to the races.  In fact, while I’ve avoided the financials like the plague for what seems like an eternity, I’m starting to get interested.  Certain insurance and foreign bank names are showing good relative strength.

The heart of my exposure continues to be in technology and services.  I’ve also added decent exposure to healthcare as the biotech space is currently surging.  Energy is definitely on my radar right now, I took a shot at $DRQ on Friday after it was smacked around on the open, but didn’t see the dip buying I expected, so I exited the position with a small loss.  I’ll be focusing on the smaller driller and energy service names instead of the big boys.  Major M&A action is going to take place imminently, we got a little taste this week with the buyout of Smith International $SII.

It was oh so delightful to see the action in $PALM this week.  This is such a great example of the fact that although in the short and intermediate time frame, fundamentals can be wiped aside by capital flows and momentum, in the long run the fundamentals matter and a company has a real value based on its earnings.  Was I short, no, unfortunately not, I don’t have the patience or mind set to be a successful value investor, on both the long or short side.  The Palm story was all smoke and mirrors from the beginning, one last ditch effort to get acquired by an even more incompetent and uninnovative company (Nokia?).  This week the stock got what it deserves, a pounding.  By the way, Motorola $MOT is next in line to get whacked, same story, all smoke and mirrors, no one bought the Droid and no one ever will.  $MOT is a short to 5, at least.

Another market catastrophe  this week took place in Game Stop $GME.  Their business model has been broken for a long time as Wall Mart $WMT entered their space and crush them on margins.  If you were a money manager invested here, you should be fired, now.  Nothing about that chart, the earnings, or the story said to own this stock.  It’s been a crazy ride on the short side, and I’ve participated at times, but this thing could really go to zero at some point.

Winners this week included $DV, $CPLA, $IPXL, $SBAC, $CREE, $CTRP, and $MJN which finally broke out on Friday.  The $IPXL earnings were gangbusters and this is a stock I can see being a huge winner.  The education names are on fire and I love their low correlation to the overall market as I’m heavy in tech.

Losers this week include $V, $NTCT, $ARUN, and $ALGT.  I’m getting a little frustrated in $ALGT as the airline sector was hot Friday but Alegiant did not participate.  Visa is also having issues but I’m more likely to give it a longer leash.  The pullback in $ARUN looks constructive, I expect to see the next leg in the coming week, if it falters from here I’ll be banking more profits there.

I sold whole positions in $DECK, $PEGA, $PCLN and $DLM this week.  Though, I added back the Priceline position on Friday.  $DECK was the only mistake, they crush earnings Thursday after the bell and were up greater than 10% the better part of Friday.  Oh well…

New positions in Ford $F, $SFSF, $GMCR, $IMAX and $HAS were added this week.  I’ve been wanting a piece of Imax for a while now as well as those guys at Green Mountain who make coffee pots.  Personally, I don’t drink coffee, I try to stay away from dependent substances, primarily because I have an addictive personality.  I also just hate the taste of coffee.  But people are buying these things left and right, we just got one for the office, and the trend is excellent.

After you’re done fighting people at the store for your Kourig machine on Sunday morning, don’t miss the gold medal hockey game, USA vs Canada.  I could talk about this for hours, but I’ll leave it at this.  Although the Americans are not nearly the underdogs that they were to the Soviets in 1980, and have already beaten Canada once in this tournament, do not underestimate their disadvantage in both skill and size compared to Les Habitants.  Yes, the Americans are all bonafied NHL players, and most stars,  they don’t nearly match the skill on the other side of the rink.  If they play as a team, as they’ve shown throughout this Olympics they can, they’ve got a decent shot, but it will still be a monumental upset for the books.

I’m not saying this market is completely healthy again, I need to see the financials get some altitude before I make that call, Goldman $GS needs to recapture 160 and Citibank $C needs to hold the secondary offering price.  The fact that JP Morgan $JPM went out and bought an energy trading unit yesterday tells me that Dimon doesn’t think the Volcker rule will ever get passed.  This is positive for the banks and we saw that in the tape yesterday.  Dimon is no fool and he would not have made an acquisition like that if he thought he would have to divest it in a year or two.

Don’t get too antsy to throw risk back on the table just yet, I want to see Gold $GC_F hold above the downtrend line it broke yesterday and equities to show resilience on the next pullback.  If both of these take place I will be looking to load the boat on issues showing relative strength and nice basing patterns over the past few weeks, I’m currently 20% cash.

Stick with tech and food services.

Anyway, we are at a critical juncture in this market as we should soon find out whether this is a bear flag or just another dip in the rally to shake out the weak hands.  My cash position in the momentum book us +30% still as I’m not yet convinced the buyers are ready to squeeze this market.  The risk is to the downside here until many issues can recapture their 50 day moving averages.  Let’s take a look at the overall market.

The 20 and 50 day moving averages are going to be large resistance for this market.  If the 20 crosses down through the 50 that will signal an end to the move off the July lows and produce a test of the 200 day moving average.  We have already seen the market make a new 20 day low in the last week, the first since the July lows as well.  On the positive side, stochastics are rising from oversold levels and if we can crack the 50 day, I can see a major squeeze in this market similar to what happened in November.

On the 10 minute time frame, watch 110.50 as the major level of resistance and 109 as major support.  The first test of the 5 day moving average from above was successful which bodes well for a squeeze, but we need to see some follow through to the upside on good volume to get the bears scared and the bulls panicking that they need to get back in.  I will be one of them as my cash position is pretty high.

Use Goldman Sachs $GS as your guide to this market, if it runs back through that major level of resistance the squeeze could be on.  I continue to believe there is nothing fundamentally wrong with Goldman, it was sold due to fear of impending regulation and populist speak by the white house.  I don’t believe any significant legislation will be passed, and even if it is, Goldman will be fine.  The white house has shut its mouth for now, but could start talking again any time, so be aware of when the President is speaking.  If this major level in $GS fails for any one of a million reasons, it’s time to put shorts on.

The barbaric metal is behaving exactly the way I expected, we tested the bottom of the range and bounced hard.  I drew that descending triangle line in red but I don’t really believe that a break past that to the upside is going to get gold moving again, it’s just something to watch out for.  A few more weeks of consolidation is needed at these levels between 112 and 105 before we get some resolution in either direction.  I’ll play it either way.  I have been surprised at how hard the gold miners $GDX have been hit.  I made a bad call on materials a few weeks back and I’m still licking my wounds a little over it.  The miners have been a tricky trade, you need to buy on weakness, but this was the first time that weakness really turned to pain.  Stick with it, this trade isn’t over in my estimation.

Stay nimble and put together your watch list of stocks that are showing good relative strength.  If another rally does occur, it won’t be the old momentum names leading there way, there are new names that have grabbed the torch.  Here are just a few to look for: $MCD, $CMG, $ALGT, $LUV, $PRGO, $DV, $PEGA, $VRX, $HSP, $DMND, $ALXN, $NKTR.

Here is what’s interesting.  Back when the world was ending last February, the fed and treasury gave boat loads of cash to these banks with the sole aim of having them buy assets for their own accounts so that they could reflate the world.  Believe me, they didn’t give that money to the banks so that they could just give it right back by buying treasuries.  The banks took the cash and bought risk assets, for their own accounts, so that they could repair their balance sheets with the profit.  The biggest beneficiary of this plan was of course Goldman Sachs, hence the ensuing backlash against them for taking TARP and making record profits.  Well yea, if you have the play book straight from the government it doesn’t take a rocket scientist, which by the way they do employ a few of.  The other banks with internal hedge funds and trading operations all had the same play book, it was in all our interests that these banks make some money.  It doesn’t excuse their actions leading up to the melt down, but looking at the situation from a pragmatic point of view, this country is better off with the banks making loot.

So now that the government’s asset reflation plan has worked, for the time being, it’s time to close out their trade with the banks.  Frankly, I see it as being pretty fair, the banks fucked this nation, along with some politicians and other actors, then the banks helped the government out by reflating the asset bubble.  So my view is that Obama, maybe Bernanke, and obviously Volker believe that it’s time to close out that trade and reform the system.

Here’s my problem with separating regular lending operations from trading activities.  Well, the truth is I don’t really have any problem with it, I just have a problem with the government’s motivation for wanting it done, especially that of Obama.  Banks are not there to be an extension of government economic policy, they are there to make money, they are private industry.  Banks should be left alone to lend at the frequency and amount they are willing, not told that they have to lend money to small business instead of hording cash.  There is a very good reason that banks still aren’t lending, it’s because they don’t see a favorable credit environment to lend in, and I don’t blame them.   If Obama wants to go to a command economy structure, well he should just come out and say it.  It’s never worked at the scope and scale of the United States in history, command economies tend to fail miserably once they reach a certain size, with the obvious exception at this point of China, which is of course no longer communists in nature, only name, but does exhibit many command economy aspects.

If Obama wants a separation of lending from trading, then fine, let’s break up the banks, but don’t go half way and allow Bank of America to have a capital markets group.  If $BAC is going to just be a lending institution, they need to divest all other businesses.  I don’t want to see this crap getting muddled together so that the legislation is completely ineffective where loopholes are easily walked through.

So what does the world look like if there is a complete separation between lending and trading / advisory / capital markets businesses.  Well, Goldman Sachs is fine, I’m sure they would be willing to divest whatever little bit of lending they do in about 10 seconds, remember that they are just a big hedge fund at the end of the day, with an advisory arm.  Bank of America gets torn to pieces and spins off Merill Lynch, Citibank is torn to pieces, Wells Fargo is torn up, and JP Morgan is torn to pieces.

Is this going to happen, not a chance in hell.  There is no way the banking lobby is going to let these banks get picked apart piece by piece, end of story.

So is Volker’s plan a decent one in theory, sure.  Is Volker’s plan a good one in practice, no way, they will never do it correctly or thoroughly, that is if they get anything done at all, which I highly doubt.

Here’s my take.  I don’t like the fact that the government had to step in to the private sector to rescue the banking system in the first place, it wasn’t without precedent, but went far beyond anything we’d seen since the great depression.  I am a huge proponent of contract law, this government has broken it over and over again since the financial collapse, and if there is anything they should be held accountable for, it is this.

If the government decided to bail out AIG, making it a viable ongoing entity, they were required to pay Goldman 100 cents on the dollar, period. I don’t want to hear any crap about the fact that Goldman would not have gotten that payout if AIG went down, that is a bullshit argument, because it’s not the reality of the situation.  Under contract law, the government can not give AIG a bailout, and then tell Goldman to fuck off.  Yes, Goldman fucked up by not accounting for the agency risk it was taking by buying those derivative contracts from AIG, they should have known that if the market went the way they were planning, AIG wouldn’t be able to pay, shame on them.  But that does not mean they shouldn’t have gotten the full payout if AIG had the means to pay.

Look, in reality, the AIG bailout was just another way to rescue the lager financial system, think of it as a pass through entity.  Instead of the government paying out the holders of AIG’s derivative contracts personally, they gave the money to AIG and told them to pay.  This isn’t rocket science, and I don’t see why there is anything wrong with what they did.

This does not absolve them from all of the other moronic, idiotic, and atrocious things the Fed did leading up to the crash, but in my mind, their handling of the actual event was if not perfect, pretty close considering the circumstances.  There was no play book for what happened, and Bernanke stepping on the gas pedal when he did is the only reason why the $SPX trades above 600 right now.  Are we still seriously screwed, sure, this asset reflation farce didn’t solve a thing, but it did buy them some time to fake it until we make it.  And to those who complain that the banks are making too much money while the unemployment rate sits above 10%, screw you.  First off, the whole point of this asset reflation game was to get the banks healthy, otherwise we would not have had a functioning banking system.  You think things are bad now with the banks making money, you don’t even want to think about what it would have been like if Bernanke just let them all fail.  In due time, the government will stop allowing the banks to suck at the sweet teet of the Fed.  You should all be happy that Wall Street is back to some sense of normalcy and profit making.  

Look, we are dealing with a three headed political mess.  One, healthcare reform is up in the air.  Who knows if this is going to get passed, the market voted and they don’t like the uncertainty.  But I would advise to lay off using this as an excuse to sell everything or get short in size.  Two, it look last week like Bernanke was going to have a hard time getting confirmed.  This fear was put to rest this morning as leading Republican senators said they will get him through.  The market did not like the uncertainty surrounding his reappointment one bit, if he goes, so goes the asset reflation scheme and the whole fed strategy.  As you know I was and will continue to be an opponent of the asset reflation farce, but if you people want the market going up, well there’s no other way.  Third, ‘bama needed to find someone to point a finger at in order to take the spotlight off his complete and utter failure to do anything.  I’m a huge fan of the guy, he’s an intellectual, he’s a pragmatist, he’s many great things, but what he is not is a leader.  He’s failed at every large initiative and now looks so lost that he’s playing the populist game trying to demonize Goldman Sachs for being good at what they do, trading.

Here’s the play book.  Obama will fail at any meaningful financial reform just as he has failed at everything else, because he doesn’t have an original thought of his own, or enough leadership ability to put a team in place that would come up with real solutions, which we need, and then put the weight behind it that is needed to pass the legislation.  $GS is valued at a 7.5 P/E, that’s fucking crazy, it’s discounting for a complete and utter failure for them to make money going forward.  Would I take a large position right here, no.  Would I write some puts into this fear, hell yea.  $GS has good support right here from the June highs.

As for the rest of the market, we will bounce in short order.  If the bounce does not recapture the yearly highs, it will signal a larger bearish pattern.  Remember that major tops take time, it’s not an event like last week, institutions will support price so that they can distribute stock to idiot retail investors in passive funds.  We’ve seen round one of bearish patterns resolving bearish, this should be setting off sirens of caution in your head as to the structure of the market.  If we recapture the yearly highs in the next two weeks I believe we see 1200 quickly, very quickly.  The major indices are below their 50 day moving averages, this is another sign of caution.  And third, major leadership names have been under performing for a little while now.  Yes, rotation happens in a healthy market, but if investors start to shoot the high momentum names one by one the market is in trouble.  IBD has chanced their market forecast to “in correction”, although I don’t subscribe to owning stocks based on whether they are on the list or not, they do have a good track record of calling market direction and keeping you out of big declines.  This week will tell us a lot, how high will the bounce be and what issues will participate.  I will look to load up on Monday morning if we open strong and move to a much more defensive cash position mid week either way, and wait for more clues.  Let the price action be your guide.

Here is your weekend reading:

How are bank and brokerage analysts looking at the finger pointing from ‘bama (Financial Times)

It really is depressing how little Obama has accomplished and how much of a failure his presidency is becoming, I’m still rooting for him though (US News)

Great post on the Chart.ly Blog from @zortrades, the market is going to bounce, have a plan in place (Chart.ly Blog)

What happens when more than 90% of $SPX issues are below their 10 day moving average (JackDamn)

I’m long and very bullish on the tower companies, so are a bunch of major hedge funds (Market Folly)

I just can’t get on board with the complete obstructionist view of the tea partiers, I’m joining Friedman’s start up party (Tom Friedman)

A really great look at many different market sentiment indicators (Trader’s Narrative)

Iran will pull out from the NPT, build a bomb, and then rejoin, sound familiar, say like, ohhhh, Pakistan (Thomas Barnett)

It’s not hard to see why certain players in Latin America are winning economically and some are not, Chile on the right track (Washington Post)

As I said, there’s a better chance that Goldman Sachs goes public than you think (Bloomberg)

If you invest with an active asset allocation strategy, I would highly recommend putting a portion of your high beta equity capital in the Vietnam ETF (The Reformed Broker)

I’ve been saying this for a long time, economics will almost always drive politics, the China / Taiwan war fear was always a farce because of the economic connectivity they shared (WSJ)

I am so fucking fed up with Time Warner Cable, when their death is imminent, I will buy 10 shares and take delivery of the stock certificate just so I can crap on it and then burn it, I can’t wait for the day that their business model is destroyed by Apple (sorry for the vulgar language) (The New Yorker)

Natural disasters have an interesting way of becoming engines for economic development (WSJ)