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Stocks Called Flat; Counter-trend Rally May be Over

The September E-mini S&P 500 is trading flat to lower overnight. Last night's range was inside of Tuesday's range, indicating that traders are non-committal at this time. Yesterday's rally was a follow-through move of Monday's reversal bottom. This pattern usually leads to a 2 to 3 day rally equal to 50% of the last swing down. Yesterday's up move already completed the first objective so the counter-trend rally may be over.

The direction of the market is likely to be determined early today. Watch for an early test of 1082.50. If this low price holds and support forms, then look for the start of a rally. If this area fails and the market cannot regain it throughout the day, then look for downside pressure to build.

December Crude Oil is trading lower overnight. Last night's API report showing that inventories rose unexpectedly is the catalyst behind this morning's weakness. Experts were calling for a drop in inventories, but the actual build was 5.87 million barrels. Selling pressure started in Asia and is expected to continue at the U.S. opening.

Trading could turn sideways ahead of this morning's EIA inventory report which is expected to show a slight rise, but the sell-off is likely to resume unless the EIA report surprises traders. With the global economy showing signs of weakness, oil traders are looking for a drop in demand.

Technically, the December Crude Oil is resting near the .618 retracement level of the 71.50 to 84.45 range. For four days the market has been trying to establish support at 76.45, but with selling pressure building overnight, look for traders to try to push oil through this potential support level.

Stops are likely to be triggered initially, but there may be an acceleration to the downside if the inventory report is bearish. Traders will gain confidence playing the short-side if the fundamentals are on their side.

December Gold backed off its high on Tuesday after testing a downtrending Gann angle. In addition, the market closed under a .618 retracement level at $1228.00. The pattern suggests some light profit-taking, but there is still the possibility of heavy selling pressure if the 50% price at $1215.00 fails to hold. Gold traders are likely to take their clues from the equity markets today. Weaker stock prices are likely to drive gold prices higher. If stocks strengthen, then look for gold to make an attempt to test $1215.00.

The September British Pound erased early session losses and is now expected to open better in New York following the release of the Bank of England minutes which showed that the Monetary Policy Committee voted 8 -1 to keep interest rates at historically low levels.

Besides voting to keep rates low, the BoE also voted to maintain its asset-purchase program at 200 billion pounds. The MPC discussed both easing and tightening at its latest meeting before voting overwhelmingly to maintain the status quo.

Inflation is the key matter being discussed in the U.K. at this time, but MPC members found the time to talk about concerns over tight credit conditions, the impact of the government's proposed budget measures on economic activity, and weaker business surveys that pointed to slowing output growth.

Regarding inflation, the BoE said "the weight of evidence continued to suggest that the margin of spare capacity was likely to bear down on inflation and bring it back to target in the medium term once the impact of temporary factors had worn off."

The lone dissenter, Andrew Sentence, argued that rates should go up 25 basis points because inflation risks were not temporary and actually was skewed to the upside.

It's obvious where the two differ. The central bank sees high inflation as a temporary condition and Mr. Sentence believes it will remain a risk to the economy.

Sentence's argument that inflation is not a temporary condition is based on the fact that inflation has been above the BoE's 2% annual target in 41 out of the past 50 months and the government's planned increase in value added taxes would mean that inflation would stay above target longer than the central bank had previously projected. With the vote to keep rates steady, 8 to 1, it is clear that the other member's don't buy his argument and truly believe that inflation will ease back below the 2% target by 2012 without any additional help from the central bank.

If there is truly enough spare capacity to drive inflation lower, then the BoE is likely to be right, but a sudden shift in demand could use up this excess, thereby driving up inflation or at least holding it steady, but above target. In my opinion, the BoE is predicting a slowdown in consumer demand, and this cannot be good for the economy.

The inflation data released on Tuesday showed annual consumer inflation slowed to 3.1% in July from 3.2% in June. Although central bank officials acted surprised by the figure, BoE Governor Mervyn King issued a letter reiterating that spare capacity would eventually weigh on prices.

Technically the Sterling has been trying to build a support base at the 50% price level of the 1.5123 to 1.5997 range at 1.5560. Last night this level was pierced but the market found buyers waiting at a long-term uptrending Gann angle at 1.5509 today. Tests of this angle have produced bottoms four times since the main bottom was formed at 1.4229 on May 20. Because of the strength demonstrated by this angle currently and in the past, one has to conclude that a break through this level will trigger a massive acceleration to the downside.

Shortly before the New York opening, the British Pound is trading higher and in a position to post a daily closing price reversal bottom. This formation suggests the possibility of a two to three day rally back at least 50% of the last swing down. This makes 1.5729 an upside target over the short-run.


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