A Week Of Madness At Wall Street

JPMorgan Chase & Co. quadrupled its offer for Bear Stearns Cos. to $10 a share today and struck a deal to buy 40% of the company without a shareholder vote, making it unlikely opponents can block the takeover. A week ago on Monday, JPMorgan Chase agreed to buy Bear Sterns at a fire sale price of $2 a share which caused a panic in the market.

On Tuesday, Fed cut the lending rate by 75 basis points, less than the 100-basis-point cut economists expected. However, positive earnings from Goldman Sachs (GS) and Lehman Brothers (LEH) bolstered the case for a positive session, and the Dow finished Tuesday with a gain of more than 420 points.

On Wednesday, Dow gave back most of Tuesday’s gains falling 300 points. Strong results from investment brokers and a record IPO from Visa did not help the cause. Driving the loss was an implosion by commodities and metals. Gold plunged $59 an ounce, while crude oil futures dropped about $5 per barrel due to strength in the US Dollar. The US Dollar rallied on the fact that after the 75 basis point cut, the Fed will focus on fighting inflation next.

On Thursday, the Dow swung upwards to put 260 points on the heels of a strengthening financials sector. However gold fell even more. By the end of the holiday-shortened week, gold had plunged 8.6%, crude oil was hovering just above $100 per barrel.

Last week, we saw some interesting extremes in terms of the sentiment measures that we follow. Such extremes could be important as we move into the final week of the quarter. First, the CBOE Market Volatility Index (VIX) hit a high of 35.60 (VIX has moved opposite the S&P 500 Index (SPX) 88% of the time), which was just shy of the August and January highs of 37.50. The fact that the VIX failed to make a new high as the SPX carved out new intraday lows is cause for intermediate- and long-term concern.

Finally, the latest poll from the American Association of Individual Investors showed that 54.3% of those surveyed were bearish, while only 25.2% were bullish. What is striking about these numbers is that on Oct 2007, with the SPX trading near an important market top, 54.6% of investors were bullish, while only 25.8% were bearish.

The bottom line is that we are technically in a bear market environment. However, recent price action amid short-term negative sentiment extremes suggests that the market could be in rally mode for the coming weeks. Of course, that’s excluding heavy call trading among VIX option players that would suggest that another credit market accident is around the corner. The financial sector is a group short-term traders should consider on the long side, following put accumulations that were added in the face of positive earnings surprises last week.