The Italian Job 2 movie released on Sunday!

With the market’s reaction to Brexit still fresh in our minds, there is another opportunity for extreme market moves starting Monday when the results of the Italian referendum are known. It’s the long-awaited release of Italian Job Two starring Beppi Grillo!  I wonder if Michael Caine’s immortal line: “You’re only supposed to blow the bloody doors off!”  will be echoed in the version this weekend as he blows the whole thing up.

I have been getting a torrent of emails and screeds of articles from pundits that are forecasting a collapse of the euro if later, Italy votes in Grillo’s party that supports leaving the euro (this result is viewed as almost inevitable) and re-introducing the lira,  The degree of panic and alarm in many of these pieces is extreme.

This is what the FT has said:   “An Italian exit from the single currency would trigger the total collapse of the eurozone within a very short period.

“It would probably lead to the most violent economic shock in history, dwarfing the Lehman Brothers bankruptcy in 2008 and the 1929 Wall Street crash.”  

Wow!  Another Apocalyptic panic attack from the pundits hot on the heels of their failed Brexit doom-laden forecasts.

And many have forecast a collapse in the euro if the vote goes the ‘wrong’ way.

Incidentally, I well remember visiting Italy in pre-EMU days and a cup of coffee was several hundreds of lira (happy days!). It felt like Monopoly money to we smug British whose pound was worth four dollars! But the euro has been a straight-jacket for the Italian economy in particular and the popular urge now is to get out at any cost – pronto.

So today, I want to examine the case that if Italy votes No, that could well strengthen the euro, not weaken it.  In this case, the market will see that as the first step in bringing back the lira, and far from weakening the euro, the removal of one of the weakest members of the EZ (and one where mountains more euros will be needed to prevent utter collapse), the sense of relief in Frankfurt will be palpable.

The ECB are still buying tons of Italian debt under its QE programme (that is supposed to end in March).  So with Italy out of the picture, the pressure to mop up EZ debt is reduced and with it, the pressure on the euro.  Fewer bonds to buy and convert into euro bank deposits.

And sentiment could certainly support a euro rally next week.  DSI bullish sentiment on the dollar remains at nosebleed levels with a recent high at 93% bulls.  As recently as late August, DSI bulls numbered only 20%, so this sudden love affair with the dollar comes only a few months after it was roundly rejected.  I guess that’s the power of love.

This sentiment extreme is not conducive to a further large move down in the euro, although it is possible.  We traders are always dealing with probabilities and the current set-up favours a euro rally very soon.

Also, this Italian Job movie could turn out to be a lemon, this confounding almost everyone.

Latest COT data still show a 2:1 bull/bear ratio for the hedge funds and a similar ratio bull/bear for the commercials.

But in the longer term, I still believe the Eurozone will split up and only the few northern states will retain it in some form, while the southern countries will go their own way.

And of course, true to history, Italy will rise again when it gets a suitable currency and hopefully a non-interfering government, but that is a few years away at least.

Here is the weekly with my EW labels

We are in big wave C and currently testing the pink support line.  Either it will hold and put in the C wave low, or we may see one more decline to below wave 5/A low in 2015 at the 1.04 area and then start a large rally phase.

Because many are expecting parity, it will most likely not go that low before the rally starts.  And then the DSI bulls will be fewer that 5% in all likelihood, and with the large mom div that is building (red bar), that will set up the mother of all short squeezes, which will be a beautiful experience to ride.

Huge divergences in US stock indexes

I have been pointing out to VIP Traders Club members that the Dow has remained aloft last week while the S&P, Nasdaq and Russell 2000 have been hit hard.This is typical action at major trend changes.  Investors/gamblers have been rotating out of the high-flying tech and into the stolid Dow Dullards in a flight from risk.

One of the leaders of the FAANG gang that has lead the march upstairs in the Nasdaq in recent months, here is Facebook daily – and what a lovely chart pattern it reveals:

My blue lines are very long-term tramlines the upper one of which the market touched at the $134 level back in August – and again in November, making the $134 level the site of a Double Top.

But the form of the decline off the November high is a classic five Elliott waves down with a long and strong third wave and wave 4 planting a traditional kiss on the underside of the lower tramline. From the wave 5 low at the $114 low last week, the market bounced in an A wave, then a dip in the B wave and if this B wave holds, we shall see the final C wave rally before a much larger decline gets under way.

But the essential point is that we have the first clear five wave down pattern that is clearly impulsive – and signals the start of a new bear trend.  If the B wave low does not hold into next week, it should do so with one more dip before the C wave rally starts.

Last time, I showed the Russell 2000 index chart and last week, it moved below the upper blue tramline to produce a bearish ‘Overshoot’ with Thursday’s close well under the tramline

I believe the Trumpian rally off the November 8 low to be the final bull trap that has sucked many in as measured by the sentiment indicators that have suddenly switched to extreme bullishness.

So with the high-risk Russell 2000 and Nasdaq having turned down (as has the S&P 500), can the Dow be far behind?  Last week I showed the VIX Fear Index and that has started to move up off the blue support line.  Things are about to get very interesting.