Volatility returns to the markets

The past week has been a nervy one for market participants. Bears, who had been hoping for a continuation of the previous week's move down, were forced to think twice about whether or not this was indeed the next phase of selling, and some were most likely covering themselves. Bulls will have being pointing to the fact that the selling pressure, while occasionally extreme, was not protracted and so were buying into the dip. They will be taking solace from the fact that, by Thursday afternoon, the Dow Jones was only 2% lower than its yearly high.

For a trader this is not the time for a big buy and hold strategy, as we are most likely still in the midst of a bear market. However, the uptrend is still intact and being long in the short term still looks like the profitable side to be on. However in the fear/greed paradigm, fear is on the increase as measured by the VIX index, which has been increasing steadily for the past two weeks.

There have been several usually important market announcements, including interest rate decisions from the US Federal Reserve, the Bank of England and European Central Bank. However, these banks were very predictable in keeping rates on hold. It was their decisions on quantitative easing and the accompanying statements that traders were really looking out for.

The Federal Reserve left this month's statement relatively unchanged, reiterating its intent to leave interest rates "exceptionally low" for an "extended period". The Bank of England decided to increase its quantitative easing programme by £25bn, bringing the total to £200bn. This is something the BOE governor Mervyn King wanted to do a couple of months ago, but he was outvoted. This time around he got his way, and it will be interesting to see what the vote was when we read the minutes in two weeks' time.

The main talking point from the ECB was president Jean-Claude Trichet's comment at his post-rate decision conference. He said the "extraordinary" measures to provide banks with funds will be phased out "in a timely and gradual fashion", and that "a number of indicators of spending and confidence" suggest "that a pick-up in economic activity may soon be evident".

However, the two European banks are still obviously worried about risks to growth. Trichet tempered his comments, saying that "concerns remain relating to a stronger or more protracted negative feedback loop between the real economy and the financial sector", while the BOE said that "the prospect is for a slow recovery in the level of economic activity, so that a substantial margin of under-utilised resources persists".

These concerns were shrugged off by the markets, which are putting those sorts of worries on the long finger. At the moment the play sheet reads growth, and the players are buying.

The buying of course is not confined to equity markets. As has been the case in recent times, other asset classes also benefited. Gold hit an all-time high just above $1,095 and oil traded back above $80. We will be waiting to see if the Dow Jones can manage to trade above and hold 10,100 next week, a move that would strengthen our short-term bullish view.

Drop in supply buoys oil traders

It's been a volatile week for oil traders, as the market failed to sustain any particular trend. On Monday morning US light crude threatened to break below the $77/bbl mark as the 2.5% fall in the equity markets weighed heavily on all markets, including oil. However the markets found support and oil prices started to rally back towards $80/bbl.

Wednesday was the most interesting day for oil traders, as weekly oil inventories showed a surprise drop in supply which sent oil prices surging to $81. However, the key fact for traders was that despite these poor numbers, a significant rally in the equity markets and a weak dollar, oil prices couldn't sustain this rally and prices fell back to $80/bbl by close on Wednesday.

This inability to hold above $81 has been a regular occurrence. On the past five occasions when oil traded above this level, only once was it able to close above it. This signals that the market is finding quite a bit of resistance at these higher levels, and moving higher to our target of $85 may prove difficult.

Given the support found at $77/bbl it seems more likely that the market will continue to trade in a narrow range for the short term. However, if equity markets continue their impressive uptrend, with the Dow getting back above 10,000, then $85/bbl will come back into play.

Paddy Haran and Vinay Sharma, Delta Index