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MLR - PMP 1/27/14

Global markets tumbled on Friday, continuing Thursday's drop. Market weakness was due to reports on China's weak manufacturing sector then an announcement from Japan's central bank which said that additional monetary easing was not needed at this time. This caused emerging market currencies to fall. Things were particularly troublesome in Argentina as its central bank stopped defending its currency.

So far this year, Argentina's currency has dropped 19% against the dollar, continuing a sharp decline that started in 2013. The problems in Argentina brought to mind its economic crisis 14 years ago when the country plunged into a 4 year recession. However, Argentina's economy is much better now as its economy actually grew a small amount last year along with a trade surplus. Further, the printing of currency by major central banks helps fuel investment in developing countries such as Argentina. While some may speculate that this is a subtle sign that central banks may start tapering sooner than later, Bernanke has said that interest rates would be kept at unusually low levels for an extended period of time which means even if the Fed tapers, it will find another way to keep rates low, which means finding another way in its bag of tricks to print money.

Japan's central bank has been a big contributor to quantitative easing overall so it is not surprising its announcement had a corrective effect on world markets which are depending on QE from central banks around the world to move higher. That said, Japan's central bank will continue to print at its current rate which is fairly substantial. The disappointment came when the BOJ said additional easing would not be required so perhaps the markets were looking for any excuse to sell off since these mini-corrections tend to occur every 1-2 months.

As for US markets, a number of times in the last few months, its major averages fell more than 1% on higher volume which was where the market found its footing before moving higher. At present, the S&P 500 is under its 50-day moving average and more than 3% off its high. Since January 2013, it has moved under its 50-day line a number of times, but each time, it rebounded when it was anywhere between 3% to 5.7% off its high. Based on Friday's close, it is currently 3.2% off its high, thus, given the state of quantitative easing, odds favor that the S&P 500 will find its footing within 2.5% or less from where it is currently trading, if we use 5.7% as the worst case floor. Keep in mind that markets live to surprise, so using 5.7% as the worse case scenario may be a greatly mistaken assumption.

That said, the put-call ratio hit 0.93 Thursday and 1.0 Friday. The last time this indicator was at these levels was on Nov. 7, when it was 0.98. The markets then found their footing and rallied.

Nevertheless, should selling pressure abnormally worsen, the Market Direction Model will account for this.

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