Next week is options expiration week, which is typically volatile. Also, important economic reports next week may generate even greater volatility. The Fed (i.e. Federal Reserve) has adopted a "data dependent" policy, which makes inflation related reports most important for the stock market.
Next week economic reports are: Mon--None, Tue--Retail Sales, and Business Inventories, Wed--Capacity Utilization, Industrial Production, Empire State Index, Net Foreign Purchases, Oil Inventories, Thu--Building Permits, Housing Starts, Import & Export Prices, Unemployment Claims, and Fri--PPI, Michigan Consumer Sentiment, Philadelphia Fed.
Inflation related reports are Capacity Utilization, Import Prices, Unemployment Claims, and the PPI. Moreover, the market may perceive strong production and consumption as inflationary, although weak growth with inflation, i.e. stagflation, is also of concern. One month of data don't make a trend. Nonetheless, the market may react strongly to these reports.
Over the next few weeks, the market will estimate future monetary policy by tying together recent economic reports. Real economic growth is expected to pick-up this quarter to above 3% from the 1% growth rate in the fourth quarter. So, inflation data will be of particular concern.
The unwinding of options will also generate volatility. Some Feb Max Pain expirations are: SPX 1,275 with the value of calls roughly three times greater than the value of puts, OEX 575 with the value of calls over three times more than puts, and QQQQ 42 with the value of calls about 25% greater than puts.
The chart below is an SPX daily chart. Last week, SPX traded within the Dec consolidation area (also, see extended Price-by-Volume bar on left side of chart) roughly between 1,250 and 1,275. Feb Max Pain expirations indicate SPX will trade in the consolidation area again next week. However, the following week, SPX should break to the upside or downside.
In late Jan, the MACD indicator moved towards a potential bullish crossover and then gave a bearish kiss (see circle). Consequently, SPX fell shortly afterwards. Currently, MACD is moving towards another potential bullish crossover, which may determine a breakout above 1,275 or breakdown below 1,250.
The recent bearish megaphone pattern (of higher highs and lower lows) favors a breakdown. However, a MACD crossover may cause a powerful short-term bounce, while another bearish kiss may cause a breakdown below the lower line of the megaphone pattern. Nonetheless, uncertainty about monetary policy may persist for several more weeks, while the market and the Fed are "data dependent."
Charts courtesy of StockCharts.com
Arthur Albert Eckart is the founder and owner of PeakTrader. Arthur has worked for commercial banks, e.g. Wells Fargo, Banc One, and First Commerce Technologies, during the 1980s and 1990s. He has also worked for Janus Funds from 1999-00. Arthur Eckart has a BA & MA in Economics from the University of Colorado. He has worked on options portfolio optimization since 1998.
Mr Eckart has developed a comprehensive trading methodology using economics, portfolio optimization, and technical analysis to maximize return and minimize risk at the same time and over time. This methodology has resulted in excellent returns with low risk over the past four years.
