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S&P Futures Show Artificial Selling

Last night I wrote about what I thought was driving down prices in the equity markets. I noted that I'd heard stories about the hedge funds selling short the S&P Futures contracts as a way to fund redemptions so that they didn't have to sell current holdings.

This morning, I was able to graph this phenomenon. You can see that the selling is at extremes from the moving averages. This sort of thing, although painful (I perpetually feel like I need to get sick to my stomach as I watch companies with earnings and cash on their balance sheets being treated like dot-coms with no earnings or assets), does not last and reverts to the mean.

At some point, something will cause buyers to step into the stock market and begin to buy. This will force the hedge funds to cover their short futures positions, and you will see a big oversized move upward in the markets. Its just how things work.

Tony Crescenzi wrote today "In light of the deeply rooted anxieties that exist among investors — it will take time for frayed nerves to calm and for emotions to catch up to facts. What are these facts? The most important include the U.S. and U.K. injections of public money into the banking system, the U.S. plan to remove troubled assets from the books of financial institutions, the extraordinary expansion of the Fed's balance sheet, the cut in global interest rates, and the elimination of the virulent worldwide inflation problem and the related excesses in emerging markets that were threatening the secular upturn in the global economy.

"Two factors make it likely that the gargantuan efforts by the Treasury and the Federal Reserve will eventually work. First and foremost, the expansion of the Fed's balance sheet will almost certainly boost the money supply. Milton Friedman said that inflation is always and everywhere a monetary phenomenon. It is almost impossible to believe that the infusion of new money into the banking system — the seedlings for future money supply growth — will do anything but push prices higher, first financial assets, and then prices in the real economy (this part is a long way off, say two years or so, but the Fed has sown the seeds for a continuation of the secular bull run in commodities prices).

"A second powerful factor in the whole equation is the performance of the U.S. dollar. None of what the Treasury and the Fed are working at would work if the world were to give collective thumbs down. The dollar's 10% rally (using the Fed's trade-weighted index as a gauge) is helpful in this respect. It helps to keep the value of agency debt securities higher than they would otherwise be as well as agency mortgage-backed securities, two channels by which money flows to the housing market, which of course is of vital interest to any recovery chances. "

All of these things matter and sentiment will change because one or all of these things will be the catalyst. Unfortunately, you don't know when that will occur – but you don't want to miss a rally that add's 20% or more to current positions – so we endure.