We have had a nice run here on (BAC), posting a profit of 20% in just one week. The stock market is now at the top end of a one month range, so I am going to cut back some risk. The big gainers are always the first to go on the chopping block.

We have had a great 130 point rally off of the August 8 capitulation low. The market is getting artificially ramped up to overbought levels by month end window dressing, as portfolio seek to hide the damage caused by the worst month in the equity market in ten years.

Once we get through month end, I don’t see any positive drivers for the market until Q3 corporate earnings releases begin at the end of September, or the FOMC meeting takes place on September 20-21, when some form of QE3 may be announced. An outlier would be a surprisingly good August nonfarm payroll report, to be released on Friday, September 2. This is an outlier that is way out there.

In a perfect world, we’ll catch the next downdraft, take profits on our shorts, double up on our longs, and laugh all the way to the bank. Ah, yes, that perfect world. Something tells me that it will be harder than that.

The Justice Department’s effort to block the AT&T and T-Mobile merger is definitely throwing a wet blanket on the market. The 3 cent pop in the Swiss franc this morning is also telling us that another round of “RISK OFF” may be just around the corner.

Finally, I received a blizzard of emails from my Houston readers in the oil patch telling me “great trade” on my recommendation to go short oil yesterday. They should know.

And for good measure, we are one headline away from another tape bomb, the next chapter in the unfolding disaster in Europe.

Add all this up, and it tells me to strap on more downside exposure. Hasta la vista Bank of America. Catch you again on the downswing. Well done Macro Millionaires! You have just added 100 basis points to your 2011 total performance!

In a perfect world, we’ll catch the next downdraft in the markets, take profits on our shorts, double up on our longs, and laugh all the way to the bank. Ah, yes, that perfect world. Something tells me that it will be harder than that.

Flipping to the Short Side for a Trade

“I’ve said it many times. Energy’s share of GDP at 17% is a wall. When we get to 17%, we almost always have a recession. And by the way, we are at 15% now,” said Joe Petrowski, CEO of the Cumberland Gulf Group, a petroleum marketer.

Greece’s Eurobank and Alpha Bank have agreed to merge to create the country’s largest financial institution. The new entity will have assets of over $217 billion with 2,000 branches. Eurobank had been one of the Greek banks that failed the European stress tests earlier this year.

Private investors from Qatar were major participants in the transaction, helping to recapitalize the new institution. This is just the opening shot in what promises to be a massive consolidation of the European banking system.

The merger triggered an eye popping 14% gain in the Greek stock market, and shined some sunlight on the Euro, which rose a penny against the dollar. It set the cat among the pigeons with the “RISK OFF” crowd, sending gold and Treasury bonds down substantially.

It also pared another two cents off the Swiss franc. Since I strapped on my puts on the Swiss currency Friday morning, they have rocketed by 67%. Wait for another round of “RISK ON” in in September to take these puts higher.

Thanks for the Assist, Zorba!

“Ben Bernanke has shown his willingness to coral not just cats, but to coral mountain lions in the Federal Reserve,” said Diane Swonk at Mesirow Financial.

When the Dow crashed 514 points on August 8, the market lost a staggering $850 billion in market capitalization. High frequency traders were possibly responsible for half of this move, but generated a mere $65 million in profits, some 7/1,000’s of a percent of the total loss. Are market authorities and regulators being penny wise, but pound foolish?

The carnage the HF traders are causing is triggering a rising cry from market participants to ban the despised strategy. Many are calling for the return of the “short sale test tick rule”, or SEC Rule 17 CFR 240.10a-1, otherwise known as the “uptick rule”, which permits traders to execute short sales only if the previous trade caused an uptick in prices. The rule was created eons ago to prevent the sort of cascading, snowballing selling that we are seeing today. It was repealed on July 6, 2007. Check out a chart of the volatility that ensued and it will make your hair raise on the back of your neck.

Those unfamiliar with how algorithmic trading works see it as something akin to illegal front running. “Co-location” of mainframes with exchange computers, or having them in adjacent rooms, gives them another head start over the rest of us. Much of the trading sees HF traders battling each other, and involves what used to be called “spoofing”, the placing of large, out of the market orders with no intention of execution. Needless to say, if you or I tried any of these shenanigans, the SEC would lock us up in the can so fast it would make your head spin.

Many accuse exchange authorities of a conflict of interest, allowing members to reap sizeable custody fees from HF traders, while the rest of us get taken to the cleaners. Co-location fees run in the hundreds of thousands of dollars per customer. This is happening while traditional revenue sources, like proprietary trading, are disappearing, thanks to Dodd-Frank. There is no doubt that the volatility is driving the retail investor from the market. August has seen the highest equity mutual fund redemptions in history.

In fact, HF trading has been around since the late nineties, back when the uptick rule was still in place and colocation was a term out of Star Trek. But it was small potatoes then, confined to a few niche players like Renaissance, and certainly lacked the firepower to engineer 500 point market swings.

The big problem with this solution is that HF trading now account for up to 70% of the daily trading volume. Ban them, and the market volatility will shrink back to double digit trading ranges that will put us all asleep. The diminished liquidity might make it difficult for the 800 pound gorillas of the market, like Fidelity and Caplers, to execute trades, further frightening end investors from equities. It is possible that we have become so addicted to the crack cocaine that HF traders provide us, that we can’t live without it?

HF Traders Are Driving Individual
Investors Out of the Market

I often get accused by readers of being a dinosaur, of being insensitive to the feelings of others, and of living as a relic from a previous age. Well, you all may be right. So it is with some amusement I run a piece that I have lifted from my friend, Dennis Gartman’s, The Gartman Letter, on the difference between going to school in 1957 and 2010:

Scenario 1:
Jack goes quail hunting before school and then pulls into the school parking lot with his shotgun in his truck’s gun rack.
1957 – Vice Principal comes over, looks at Jack’s shotgun, goes to his car and gets his shotgun to show Jack.
2010 – School goes into lock down, FBI called, Jack hauled off to jail and never sees his truck or gun again. Counselors called in for traumatized students and teachers.

Scenario 2:
Johnny and Mark get into a fist fight after school.
1957 – Crowd gathers. Mark wins. Johnny and Mark shake hands and end up buddies.
2010 – Police called and SWAT team arrives — they arrest both Johnny and Mark. They are both charged with assault and both expelled even though Johnny started it.

Scenario 3:
Jeffrey will not be still in class, he disrupts other students.
1957 – Jeffrey sent to the Principal’s office and given a good paddling by the Principal. He then returns to class, sits still and does not disrupt class again.
2010 – Jeffrey is given huge doses of Ritalin. He becomes a zombie. He is then tested for ADD. The family gets extra money (SSI) from the government because Jeffrey has a disability.

Scenario 4:
Billy breaks a window in his neighbor’s car and his Dad gives him a whipping with his belt.
1957 – Billy is more careful next time, grows up normal, goes to college and becomes a successful businessman.
2010 – Billy’s dad is arrested for child abuse, Billy is removed to foster care and joins a gang. The state psychologist is told by Billy’s sister that she remembers being abused herself and their dad goes to prison. Billy’s mom has an affair with the psychologist.

Scenario 5:
Mark gets a headache and takes some aspirin to school.
1957 – Mark shares his aspirin with the Principal out on the smoking dock.
2010 – The police are called and Mark is expelled from school for drug violations. His car is then searched for drugs and weapons.

Scenario 6:
Johnny takes apart leftover firecrackers from the Fourth of July, puts them in a model airplane paint bottle and blows up a red ant bed.
1957 – Ants die.
2010 – ATF, Homeland Security and the FBI are all called. Johnny is charged with domestic terrorism. The FBI investigates his parents – and all siblings are removed from their home and all computers are confiscated. Johnny’s dad is placed on a terror watch list and is never allowed to fly again.

Scenario 7:
Johnny falls while running during recess and scrapes his knee. He is found crying by his teacher, Mary. Mary hugs him to comfort him.
1957 – In a short time, Johnny feels better and goes on playing.
2010 – Mary is accused of being a sexual predator and loses her job. She faces 3 years in State Prison. Johnny undergoes 5 years of therapy.

So True!

“We’re getting three business cycles a week with this kind of volatility,” said Kevin Ferry of Cronus Futures.

As I expected, Ben Bernanke’s long awaited Jackson Hole speech turned out to be a huge nonevent. He effectively put off any serious action to repair the sagging economy until the next Federal Open Market Committee (FOMC) meeting on September 20-21. He will look at the world then and decide if the global financial system needs any further assistance to avoid a collapse.

His reasoning? The economy is already humming along well enough to postpone any further stimulative action. In fact, he stated that he expects GDP to be stronger in the second half than in the first. This is in sharp contrast to the market’s opinion that things are going to hell in a hand basket, and that Armageddon is near.

Who is right? Mr. Bernanke, or Mr. Market? Could “surprise at the failure of the economy to accelerate” become the most commonly used phrase in future Fed releases?

The Dow immediately tanked 200 points on news that Ben wasn’t pouring another pint of 200 proof ethanol into the punch bowel. It then rallied 400 points. Gold soared by $70 in anticipation of a big “RISK OFF” trade next week. At the end of the day, stocks and gold were rising at the same time, which never happens. I think that traders were just throwing up their hands in despair and going flat so they could board up their windows ahead of the approaching hurricane.

With Ben now out of the picture, I think we are in for a period of continued tearing your hair out type market volatility that could extend all the way into the next FOMC meeting in 3 ½ weeks. Look for the S&P 500 (SPX) to continuing putting in a narrowing triangle off the 1,100 bottom that could pave the way for a more robust move to the upside in the fall. If 1,100 fails, the market will try again to find a floor just above 1,000.

I believe that there is a 50% chance that we already saw the bottom of this move at 1,100, and a 50% probability that it is at the 1,000 handle. Let me toss this silver dollar and I’ll tell you where it is for sure. And the answer is….

OK, Who Forgot the Ripple?