Fall tends to be a bearish time for the stock market, and as trading volume picks up after the dog days of summer, many investors are a bit cautious about what may come next. People like to talk about psychological levels, and 10,000 in the Dow Jones Industrial Average is one of them. Will the Dow break this key level in the coming month, or has enough pessimism already been factored in to avert a meltdown?

The stock market saw gains at the beginning of August tied to corporate earnings, but as the month wore on, economic news wasn’t so hot and the major market averages ended with losses. Profits tied to corporate cutbacks and layoffs aren’t the same as profits tied to growth. We need growth! The rallies we saw during the past couple months took place on low summertime volume. We need more participation, which is likely to come after Labor Day. We have a lot of uncertainty in the marketplace right now.

We are still in a risk-on, risk-off trading environment. Good economic numbers give investors confidence to trade what they perceive as more risky assets: namely stocks and most commodities. Bad numbers cause investors to flock to safe-havens, such as Treasury bonds and gold.

September and October are generally not kind to market bulls, although perhaps this year, enough bad news is already priced in. When looking at levels in the S&P and Dow, one point in the S&P is roughly equivalent to 10 points in the Dow. So 1,000 in the S&P is roughly equivalent to 10,000 in the Dow. Since the S&P 500 is a broader index, and the E-mini S&P 500 is more popular with futures traders, I tend to focus on that market when talking about technical levels and strategies.

If we get some good news and the S&P 500 sees a breakout past 1,125, we will likely end the year on a much more positive note. Employment is extremely important to this picture. We need the private sector to create jobs. If non-farm payrolls are positive, it would go a long way to restore confidence and cause the stock market to rally. The August employment report is due out on September 3, 2010, and the analyst consensus forecast by Bloomberg calls for non-farm payrolls to fall 80,000. If we can get the private sector to actually increase by 80,000, that would be tremendous.

September E-Mini S&P

September E-Mini DJIA

When it comes to the Federal Reserve, Chairman Bernanke seems to want to do everything possible to avoid a double-dip recession. I don’t see a double-dip, although slow growth is likely. Coming into the election, I think we’ll see a rally, and expect the S&P 500 to trade up to 1,200 by Christmastime. That would put the Dow above 11,000. If we break this trading pattern to the downside, it’s possible we could see 9,000 in the Dow, but I don’t see that as very likely.

In the near-term, I see resistance around 1,098 in the S&P 500 futures, followed by an old top at 1,125 (see chart above). These are areas bearish traders might consider establishing short positions. Bulls might want to consider buying on pullbacks to around 1,052, and 1,037 – 1,040, a support area which held for several weeks.

Besides jobs, a second element we need to restore market confidence is to sort out the tax situation the government is now debating. How new government regulations will affect trading is also important to resolve. The market dislikes uncertainty, and there are still many unresolved issues in this regard.

The third element is housing. We have to work our way through excess inventory, but it will bottom eventually.

As I’ve said before, I think there is too much pessimism in the market right now. We still have an expanding economy, albeit a weak one. Corporate America is lean and mean, the Fed and government are committed to avoid the double-dip. I think the worst is over. However, it will take time.

Hopefully Congress will get it. Hopefully our leaders will do what it takes to get the economy back on track and start growing. It’s more of a matter of whether it will take six months, eight months or 18 months.
Jeffrey Friedmanis a Senior Market Strategist with Lind-Waldock based in Chicago. He can be reached via phone at 866-231-7811 or email at jfriedman@lind-waldock.com.

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