How to capitalize on a BANKING & FINANCIAL SECTOR COLLAPSE...

originally published August 6th, 2011

• How to capitalize on a BANKING & FINANCIAL SECTOR COLLAPSE...
  August 6th, 2011

It was a very big week in the markets. First the US markets broke down from a major top area, and then in what looks like a desperate effort to remove the cause by finally acknowledging reality, the rating agency Standards & Poors downgraded US government debt for the first time ever, from Triple A to AA plus, but so far the other main agencies Moodys and Fitch have failed to follow suit, but it really doesn't matter because the markets have got the ball and are going to run with it.

You may recall that the compromised rating agencies colluded with Wall St in the sub-prime scam ahead of the 2007 - 2008 market crash, and while it may seem gratifying to see them get a sudden attack of conscience or partial grasp of reality, the fact is that they are way behind the curve as US government debt should already be rated a couple of notches lower, which means that the markets are going to have to do their job for them, by collapsing stocks and then bonds and eventually forcing up interest rates steeply as inflation intensifies. The Chinese can complain all they like as they are transported to the shearing shed to be royally fleeced when the bond market eventually crashes, although right now it is benefitting from a short-term flight to safety as stocks nosedive.

We can see the breakdown from the Head-and-Shoulders top on our 1-year chart for the S&P500 index. For a short while, after Wednesday's session, it looked like the support at the bottom of the pattern was going to hold, especially as by that time the market was already very oversold after a week or more of heavy losses, but those hopes were smashed decisively by the big slamdown on Thursday when the Dow Jones Industrials fell by more than 500 points. The market is of course horribly oversold after the massive drop on Thursday, which is why it tried to steady on Friday, but this may not help it much next week if the psychological shock of the ratings downgrade leads to further heavy selling - it depends to what extent this development was anticipated by the market. One thing is for sure, with the market having broken down from a major top area it is vulnerable to further heavy losses, oversold or not, and if it remains in crash mode these could be severe as panics have no respect for support levels and not much for oversold readings.

The sector in the US Markets that looks particularly vulnerable to really horrendous losses is the banking and financial sector. As we can see on the 5-year chart for the bank stock index it has just started to break down from a massive 2-year long top area that dates back to mid-2009 and its moving averages are in very bearish alignment following a bearish cross some weeks back. The sector is in position to crash especially as they not going to be able to push their snouts in the trough like they did when the crisis hit in 2008 and suck up trillions of dollars in public money to make good the losses from their bad business decisions and continue lining the pockets of their senior executives.

The chart for Bank of America look horrific. It entered the vertical plunge phase by dropping precipitously on huge volume last week. It had already been looking relatively weak even before the plunge started, and we should not be fooled by its current oversold status into thinking that it has bottomed. This chart has no redeeming features whatsoever - an already established downtrend has shifted gears rapidly into a vertical drop, moving averages are in very bearish alignment, and there is nothing but air below it. Good one for Puts.

Citigroup is on the ropes again, It had been holding on by its fingernails for weeks, but has now lost its grip and is plunging vertically. While not quite as bearish as Bank of America, this is definitely a very bearish chart that looks set to lead to a vertical plunge that will result in horrendous losses very quickly. Its 3-year shows its moving averages in bearish alignment, with the MACD still near neutrality providing plenty of scope for further massive losses.

Goldman Sachs has always given the impression that it believes that society exists to serve its interests, rather than the other way around, principally by affording it the opportunity to pay its senior staff astronomic salaries and bonuses. The problem now for them is that the entire US banking and financial services sector has been "holed below the water line" and is going down like the Titanic, so that even "much too big to fail" GS may not be able to be spared hard times by its many crony pals in government and on Wall St. Certainly the 5-year chart for GS suggests that after valiantly resisting breakdown even it is succumbing and now vulnerable to a steep plunge. We would rarely dare to short this or buy Puts in it because of its patronage, but this looks to be as good an opportunity as any.

Another big kid on the block that has been hard to bring down is J P Morgan, but it too is starting to go. It is likely to enter into a severe decline once the support at about $35 shown on our 5-year chart gives way.

It is planned to add selected Put options contracts in these stocks tomorrow morning, and we will also be looking at financial sector bear ETFs and as available options in same, including Puts in financial sector bull ETFs.