Okay, so, as expected, the S&P filled the "Flash Crash" gap we talked about here a few days ago. Kind of. Now what? This morning we are exeperiencing a relief rally. The Euro is actually green by a few points. Gold is getting pummeled (as it always does after a $150 run). Will it last? I think it's important to see how powerful this rally is after a few days, rather than a few hours. I have covered my shorts for the time being but I expect to reload at a later date, possibly as early as later in the week. And I will be buying gold on its decent toward the 1200 area, where there is a lot of support. I will not really be impressed with a rally in stocks unless they can convincingly break through 1160 level on the S&P. There are too many reasons to sell right now.

I don't want things to fall apart in the stock market. No really, I don't. But the unusual level of "CNBC Optimism" combined with a bad chart, and terrible reactions to so-called "good news" today are all leading indicators, to me, that all is not well in market land. Let's take a look at these items one-by-one: 1) A $6B deal between SAP and Sybase is announced. It can't help the market though. As I like to say, it's not the news but the reaction to the news that matters. The market's reaction was muted, at best. Tech stocks have been selling off all day. 2) Even John Chambers can't save the market. When America's most polished optimist, John Chambers, announces a "great quarter" and comes on CNBC, but the market sells off, that's a bad sign. Cisco reported its "strongest quarter ever," but the stock has sold off nearly 5% so far today. Hmmm. 3) The S&P chart, which I commented on here, is looking more and more awful. Following the trillion-dollar Euro bounce, further gains have been muted, and we are getting yet another rounded top in the context of a scary looking waterfall like pattern. You think all those High Frequency Trader (HFT) programs are done with their mini-panics? I don't. On the chart below, I have shown the downward angle of the top we've formed in the last few weeks, as well as circle the area where that interesting "panic gap," was created after the Euro bailout was announced. Notice that the "Euro Bailout Rally" is now just a blip in the overall chart. For whatever reasons, markets like to gravitate back to areas of huge turbulence -- especially when there was a large gap. This is what I expect to happen to this market. That area will be tested again and either fail or succeed. Disclosure: Short S&P (stop at 1175), long S&P puts.

I remain on crash watch over the weekend. If the Euro bankers don't do something soon, this could be a real mess. I have gone to basically 80% cash, plus I am short S&P futures with a stop set at 1120. The market action today was simply horrible. You would think there would have been some kind of bounce from yesterday's debacle, but any bounce was feeble and the market is now trading in a steady downtrend. What's more, from charts I have looked over from prior crashes, this doesn't look good. Expect some fireworks on Monday. 

It's funny to watch all the commentators and analysts come out of the woodwork this morning to explain how "things could go wrong in the market." It's as if they haven't noticed the market has been dysfunctional for quite some time. The market, fundamentally, is broken. I think this is because of the lack of liquidity from the small guy and the growing influence of gigantic over-leveraged quant traders. Think of the crises we've had in the past: Long-Term Capital Management in 1998, the banking crisis of 2007/2008. Both were basically caused by hot-shot bankers with lots of overleveraged money and too little liquidity. Inevitably, some rocket-scientist trader starts making money, leverages up, and gets a god complex.That's when things go wrong. Case and point: The major investment banks, coming off record profits in 2006/2007,  were leveraged more than 30-to-1 going into the 2008 crisis! The financial markets always have a way over going overboard and plunging us into crisis. I believe there are two things at the heart of this: Overleverage, and ego (or greed). Go back and read "When Genius Failed," it's a great book that explains this perfectly. Isn't it interesting that the Long-Term Capital Management Crisis in 1998 was triggered by a sovereign-debt crisis. As for what happened yesterday: For those who weren't there, it was a wild ride, with the largest Dow Jones Industrial Average point swing ever -- with the average down 10% and 1,000 points at some time. People are still trying to explain what happened. I was actually at my screen when it happened (luckily, I just happened to be short at the time), and it felt like I had been sucked into some kind of science-fiction film. I saw the S&P E-mini plunge nearly 70 points in about 10 minutes. Markets recovered quickly from the 10-minute intraday plunge, and now the analysts and commentators are trying to explain the unreal things that  happened with the market and some particluar stocks (at one point in the day, Accenture -- a $40 stock -- was trading at .01). Here's a chart of the action in the E-mini S&P futures contract, one of the alleged culprits of yesterday's weirdness: Yes, this was an extraordinary move. But my feeling is that more "strange things" like this are happening all the time. During the recent market "meltup," I can remember many days in which the market didn't move at all for hours, and then suddenly out of the blue it vaulted 10 S&P points in 10 minutes. Should we investigate that, too? Even this morning's action is strange, and discomforting. Looking at the chart above, I would not be surprised if the market heads back down toward yesterday's mythical intraday low (if you blinked you missed it), just because it now lies in the memory chip of some high-powered quant trading fund. CNBC and others have pointed out that these sort of events do nothing to restore the confidence of the average retail investor (let alone Jim Rogers), and they are absolutely correct. In addition to the scary trades that still go on in the "dark market" (credit derivatives swaps as detailed in the SEC investigation of Goldman Sachs), we have the market increasing being controlled by highly leveraged computer-driven traders. These shops use the most sophisticated technology in the world and they trade tens of thousands of shares of stock in a microsecond, mostly driven by computer algorithms. The best analogy I can think of is take a look at what happened to Toyota. Imagine a Prius with bad software. Then imagine that happening to global trading markets. Scary thought.

It's Groundhog Day in the market this morning where you wake up and hear about a "Plunging Euro" and "Greek Contagion" and "Angela Merkel." As one of my favorite market mavens in Chicago said, "It's like Chinese water torture." Only, it's more like, Greek water torture... on to the news:

• Euro tumbles to 1-year low vs. the dollar (Reuters). Great, maybe next time I go to Europe I can finally get a beer for under $8.
• Three people killed in Greek protests (New York Times).
• Moody's warns on Portugal (Wall Street Journal)
• Scottish airports closed by volcanic ash (BBC). This time, scientists say the smoke might be coming from Greece.
• "1 or 3 Gulf leaks halted but oil flow same." Okay, so, if you've halted a leak, but the flow is the same, have you really accomplished anything?
• Rupert Murdoch brags about his iPad (Paidcontent.org) Says his makes more money than yours.
• But is the News Corp. subscription strategy months away? (AllThingsD)
• Picasso work sells for $106 million dollars! (New York Times). Is there an ETF for Picasso?
• Ernie Harwell: RIP (Detroit Free Press). Great man, great life.
• Scientists explain why computers crash but humans don't (Physorg.com). I beg to differ. I've crashed many times.
• NASA team claims to have evidence of extraterrestrial life (Washington Post)

In bull/bear chatter on the stock market, my bull friends are getting increasingly confident. That's a contrairian warning sign to me. We are close to a possible turning point in the markets. My guess is that this would happen after expiration on Friday. My spidey sense is tingling: I see market volatility ahead. Here are my Top Ten Reasons why I don't trust this market right now 1) VIX, a measure of volatility which often moves in opposition to markets, is at a multi-year low. 2) ECRI leading economic indicators down 3 weeks in a row. 3) Increasingly wild and unpredictable action in the dollar. 4) Informal polling of business friends: Not one person says business is much better. 5) Correlations between the S&P, dollar, and gold are breaking down for the first time in many years, interesting a possible change in market dynamics. 6) Several leading technical analysts calling for the top. 7)  Bullish sentiment near multi-year high. 8)  "Things never look as good as they do at the top." 9) Fed running out of money in the printing press division. 10) Chart showing a perfect double-top in a long-term 10-year bear market chop. Of course, I'm just being cautious. I let the market dictate my actions. I reserve the right to change my opinion immediately, especially if the market is able to break out after options expiration this Friday. One reason why the top MAY NOT be coming: 1) The Feds are starting to print more money again because they know the alternative is disaster.

Yesterday, I was liquidating stocks and buying S&P puts to protect my remaining position. I will continue to do so today. I will probably go from 80% invested to 40% invested. The remaining stocks I own will have reasonable P/Es and they will be hedged with S&P puts.  Two charts have got my attention. First, the recent marginal new highs in the indices have been accompanied by lower volume. I just don't see as much enthusiasm in the rally anymore, and there is certainly not large amounts of institutional buying. Secondly, the chart formation is a scary double-top. We rallied back to the January high of 1150 in the S&P, but now it looks like we're failing again. I will remind readers that the correction after the January high was particularly nasty. I would not be surprised to see some as big, or bigger, now. The second chart goes back to my earlier point: Where's the money going to come from? Yes, it's tricky to game this market, because the Wizard of Oz can always print money. But ideally a rally needs real cash to survive, it's the fuel of the stock market. Unfortunately, much of this fuel has been the cheap financing from the government that's fueling short-term bets by investment banks and traders on Wall Street. But they've bought the asssets, and the money is borrowed, so they want to sell higher to pay it back. The stronger, longer-term money has also been used up: mutual funds. As demonstrated by the chart below, it turns out that mutual fund cash levels are returning to all-time lows. Remember, mutual fund cash levels rose in the crash of 2008, allowing them to come into the market in 2009 and help fuel the rally. That cash has now been almost entirely deployed. Where's the new money going to come from? Unfortunately, I think this is a bad picture for the market. If the mutual funds start liquidating the stocks they've piled into over the last 12 months, the tide will turn quickly.  It's why I'm selling any of the stocks I made money on in the last few months and why I'm hedging the rest.

How do you trade or invest in a market where the most volatile moves occur in 5-minute spams driven by computer algorithms on steroids, the average investor's involvement is limited at best , and the entire complexion of the market can be changed with one stroke of a pen by a government official. The answer: Very gingerly. Fundamentally, there are interesting parts of the market: you can find high quality, growing stocks with low valuations. But technically, the market is a mess. After plummeting to a low near S&P 650 in the panic bottom of 2009, the market has rallied back toward S&P 1150 It now sits at 1090, but the action is lackluster and the chart is certainly starting to look "toppy." The rallies come on low volume, and the selloffs come on high volume, which is a bad sign.

Then there's the huge, macro picture of the market. The economy is improving, but much of that has been engineered by deficit spending. There is a huge, direct correlation between the amount of liquidity the government has pumped into the market and the rally in stocks. This can be viewed almost as a direct transer of cash to the banks in the famous bailouts: The Feds bought Treasuries and mortgage-backed securities from the banks, and they took they took cash and and piled into risky assets such as stocks and commodities to gun their portfolios.

What now? Well, for the market to have another leg up, you need to find another source of liquidity, as the free government money dries up. We need the famous "cash on the sidelines" to get involved. Now, the problem with that is a lot of that cash has been used. Some of it went into stocks, some of it went into bonds, but a lot of the money has been put to work. In March of 2009, there was more money in money markets than there were in equities. As the equity markets rallied, more than $500 billion was drained from money markets and put to work in equities. I don't think you count on the cash from the average-Joe investors "on the sideline." This money includes money that people are stashing in their mattresses and keeping in their 401K for retirement. Following the events of 2008, the average investor is likely terrified to pour any money in stocks, especially if they are close to retirement. What will it take them to get involved? Probably a much improved economy and lower unemployment rate. Perhaps the best hope for the stock market is that as the low interest rates stimulate inflation, money will begin to flow out of bonds and into stocks. What about the Federal Government? That's the biggest source of cash and liquidity, and they have certainly facilitated this rally. If you wonder why investors shudder whenever government officials mention "withdrawing liquidity," it's because that liquidity has formed the basis of the economic recovery. The United States government acquired trillions of dollars of assets and injected cash into the system. You know what that means: The U.S. Federal Government (and American citizens) are left holding the bag. What will happen to these assets. Will the federal government, as discussed, start withdrawing the assets by selling them? What will they do with all the junk on their books? My guess is they will continue to hide it. As we see below, the federal balance sheet is still growing, not shrinking. In short, the Feds control the market. That's what's scary about the market, and why I call it the Wizard of Oz market. It's not being controlled by market forces anymore -- it's being controlled by the man behind the curtain. My best guess is that whenever market swoons come, the federal government will print more money. The will sit on these assets for as long as possible, until they have boosted the system sufficiently by printing money and creating inflation. You heard about zombie banks in Japan, yeah?

In the new year, pundits, traders, and strategists sharpen their pencils (or keyboards) to issue reams of "lists" and predictions for the new year. I've done my best here to round up the top five top ten lists for 2010! These include predictions, surprises, e.t.c. Many are quite notable names. What's interesting this year is the diversity of opinions and divergent views. I think this is a measure of how much truly unconventional stuff is going on -- truly historical -- and who hard it is to predict the outcome of "unprecedented measures," for example, of massive government money printing and multi-trillion deficits. Here are the lists: 1) Byron Wien's surprises for 2010 Notables: Treasury yield goes above 5.5%; stock market rallies to 1300 in the first half (S&P), then declines to 1000; U.S. dollar rallies. 2) Bill Gross's Investment Outlook 2010. Okay, so this isn't a traditional list. But it's one of the most successful bond investors on the planet. If you can wade through Bill's terrible writing and political ideology, there are good investment ideas. So you have to listen. Notables: Investors should be "vigilant"; all asset markets may suffer on Fed exit strategy; carry trades to be at risk; "watch out!" says Bill. 3) Doug Kass's 2010 surprises. So, this list is 20 long. Oh well. still interesting. Notables: Huge Q1; housing and jobs fail to revive; U.S. dollar rallies; gold falls; central banks tighten; Israel attacks Iran; treasury yields fall; Warren Buffett resigns; the N.Y. Yankees are sold. 4) Bob Doll's Top Ten predictions for 2010. Notables: S&P hits 1250; emerging markets outperform; possible earnings growth of 20%; inflation not a problem; merger activity picks up; GOP gains in U.S. politics but doesn't take majority. 5) Richard Bernstein's Top Ten predictions for 2010. Wow -- this was quite a shocker. The former Merrill Lynch strategists -- who had been bearish for many years -- turns bull! Maybe Merrill made a mistake in turning him loose. Notables: Stocks and bonds both have positive returns; U.S. dollar rallies; carry trades at risk; corporate profits explode; employment improves; Democrats do better in mid-terms than people think.