A couple of weeks ago in the weekly newsletter (subscribe for free E-Delivery)(subscribe for free E-Delivery)I discussed the series of events behind the decline of the market in October and the subsequent surge.

“The chart below shows the series of events that has propelled the markets higher in recent days as a massive short covering rally, on declining volume, has taken place.

The chart below is an hourly chart of the market over the last month. It shows the flip-flop of Fed President Bullard, the end of QE, the impact of 12 day old news that Japan’s GPIF was upping their allocation to equities which was followed by a surprise announcement that Japan would double down on their failing QE program. That is how you concoct an equity rally that forces short positions to liquidate ‘en masse’.

As noted in the chart above, the Federal Reserve announced the completion of their“bond buying/balance sheet expansion” program following the two-day FOMC meeting at the end of October.

QE Is Dead, Long Live QE

As discussed previously, the correlation between the Fed’s balance sheet expansion program and the subsequent changes in the S&P 500.

“The reason for the rise, of course, has been almost solely due to the Federal Reserve’s ongoing, but currently declining, liquidity injections into the financial markets.

As you can see, there is a very high correlation between the Fed’s balance sheet increases and the financial markets. With the Fed now “tapering” those purchases and ending them theoretically by October, this support will fade.”

When the Federal Reserve balance sheet has flattened out due to temporary periods where QE programs were not active, the market has stagnated or had fairly sharp corrections as in the summer of 2010 and 2011. It was following these declines that the Federal Reserve quickly acted to reinstate those liquidity programs to support asset price inflation and stabilize economic disruption.