Wednesday, October 16, 2013

Markets won't crash Thursday if there's no deal

A lot of people seem to forget that the October 17 'deadline' is merely a soft deadline. It's actually the reason why the markets aren't reacting as negatively as they should if this was indeed the 'final deadline'. Think about it, wouldn't the markets react differently if it was all going to be doom and gloom on Thursday? Wouldn't we see the VIX soaring, gold price spiking, US dollar index crashing, and see the Dow trading well below 15,000? And why is this not happening? Because it's not as bad as it all seems at the moment. I'd like to emphasize on 'at the moment', however. European markets are slightly lower at this time of writing, awaiting what will happen in the US trading session. It would be nice if there was a deal before Thursday, but right now I don't think it's likely to happen. Chances are that there will be a pullback on a global scale, but this only creates opportunities. Remember, volatility is what makes us traders money. To get some sense of direction I think it's a good idea to look at the US dollar index in these tense and volatile times. This index will tell you how severe this whole 'doomsday' scenario' really is. In 2011, the US lost its AAA rating, a massive dollar sell off followed but fact of the matter is that the US dollar index only really lost 1.5%. A similar scenario will unfold Thursday, its severity can be measured by looking at the US dollar index in conjunction with the VIX index. I think even if the government shutdown lasts until the end of the week and reopens on Monday, it would be still enough time to avoid a default. After all, the largest holders of US treasuries are central banks and I think they'll be willing to wait a few days to see how this will play out. If the US indeed defaults on its debt obligations, it would merely be a technical default; it's all a matter of coming to an agreement between both parties. I know certain media outlets have a tendency to present the news more negatively than it actually is. However, there will be a significant drop in the markets but bear in mind that simply the natural trading flow of the markets is also playing a big role. When you look at the chart of the Dow Jones below, you can see that there's a spike in the blue oval area.

So, in a scenario like this it only makes sense that there's going to be a pullback - especially under these circumstances. This probably would've happened even if there was no government shutdown or danger of default in play, but these latter forces definitely will affect the markets negatively. A crash like we've seen in 2008? Most likely not. I believe most traders, investors and analysts need to keep their heads cool and simply use common sense. Wait for a good entry point. There may be some great bargains once this blows over.

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