Fear is the best motivator

On April 27th I concluded by saying Until some sort of blanket bailout package for PIIGS is announced or is suspected, be on the defensive here in the ST

Well, it turns out that this was good advice. I believed at the time that the entire PIIGS problem, not just Greece, was bothering the market and had to be addressed. I wasn't sure about the time line but I figured before the summer would be over it would be addressed completely. For a while the market seemed to have ignored PIIGS (don't ask why...it just did...doing what it does best making fool of as many people as possible i.e. the bears, before finally turning). Last week's meltdown, fat finger or not, was triggered by the market's recognition of contagion fears. The market didn't care that Greece agreed to the bailout, it was concerned about who was next to buckle.

If there is anything government authorities learned is that doing nothing (ex. Lehman Bros.) is far worse than the "moral hazard" implications of bailouts. The lesson learned from 2008 is that dragging your feet or doing nothing results in severe punishment while bold action gets rewarded. In 2008 it took a series of unprecedented bold steps to stem the crisis. At first governments were in denial, especially in Europe. I remember in summer of 2008 hearing ramblings on TV about how Europe wanted to raise rates. I remember shouting at the TV at work calling them idiots. The markets were yelling and screaming that the economy was in danger and these clowns were talking about raising rates! lol! What bafoons I thought. Well, they certainly got a rude awakening.

Ever since the recovery started last year, governments around the world still worry about another 2008. Put yourself in their shoes. We were basically at the brink of complete collapse in the financial system. Can you imagine the intense fear and stress that government authorities experienced? A lot of the bold, aggressive action they took was experimental and desperate. I'm sure even they had strong doubts it would work....but it did! They must have felt they pulled off a miracle and are so very grateful that the markets have calmed and the economy has turned. So, do you think they are going to get complacent and just sit there when a contagion threat like the PIIGS comes along after what they've been through just 2 years ago? Not a chance. Fear folks, fear. Memories of 2008 are still very fresh.

This weekend the EU has drafted a near 1 Trillion loan package available to any troubled European nation. This is exactly the type of "blanket bailout" I was expecting. This is bold action and why? Fear. The market action last week fat finger or not was reminiscent of late September 2008. Unlike before, the EU took their cue from the market and responded quickly and boldly. Quicker and bolder than even I thought.

So, what will the market do? Well, futures are through the roof tonight. As I said Friday, the market was extremely ST oversold and there was outright fear in the market place signaling an imminent bottom. This catalyst is certainly significant to trigger a bounce but will that be all for this decline? Well, typically at a bottom what you see a reflexive rally followed by a move down again...typically a retest or lower low. Given the unusual circumstances of the low put in (SPX 1065) we probably won't see it get tested, so therefore, I would look for a rally followed by move lower towards perhaps current levels or slightly lower (1100 or so). No matter what, I'm simply going to wait for my favorite indicators to give the green light. Some of them already have given it....other's haven't because it takes some time for them to turn from negative to positive and vice versa.

But to play the devil's advocate, we need time to see how the market responds to this bailout. And what about the UK? I don't think they are included in this bailout package (to be honest I don't know much about the details of it right now).

Should be for some interesting days ahead....