The markets will likely try to rally this week based on the following items:

1)   End of quarter performance gaming

2)   Last week’s weak stock performance

3)   Angela Merkel signaling that Germany will increase the pointless “firewall” around Europe’s banking system

4)   Bernanke’s hint that more QE is coming in April in this morning’s speech

#1 is a regular phenomenon in the markets and needs not be explained. #2 is closely tied in with the latest policy of verbal intervention on the part of the Fed: any time stocks weaken some Fed official, usually Charles Evans of Chicago or Bill Dudley of New York, gives a speech suggesting more easing is just around the corner and VOOM! stocks take off again.

#3 is just the next step in Germany trying to hold the EU together long enough to see how the French elections turn out in April/ May. Given that Merkel’s political ratings drop like a stone any time she spends more German money and explode higher any time she plays hardball with the EU, we can take this move to be mainly posturing and playing for time.

Indeed, France is now a wildcard in the great EU bailout scheme. Most polls show a socialist winning in the second round  of the elections. And not just any socialist, but François Hollande.

A few facts about Hollande:

1)   He just proposed raising tax rates on high-income earners from 41% to 75%.

2)   He wants to lower the retirement age to 60.

3)   He completely goes against the recent new EU fiscal requirements Merkel just convinced 17 EU members to agree to and has promised to try and renegotiate them to be looser.

So Merkel knows that if Hollande wins in France, her campaign to turn the EU into a fiscally responsible German-led group of colonies will be over. Europe could very well collapse before then as the Spanish and Italian bond markets are flashing danger signs again (despite the world believing LTRO’s 1 and 2 solved everything). And the facts remain that the entire EU banking system is a disaster waiting to hit (anyone notice that EU banks continue to park cash at the ECB like there’s a systemic catastrophe looming?)

Finally, Bailout Ben Bernanke just hinted at more QE in his speech at the National Association for Business Economics this morning.  With gas prices at $4 and food prices not far off from their all time highs, I cannot see how Bernanke can possibly unveil more QE without unleashing major political outrage and destroying Obama’s chances at re-election (Obama did re-elect Bernanke as Fed Chairman).

So I view this hint as more posturing from Bernanke. He likely is aware that seasonal adjustments have made all economic data from the last three months look better than reality and is simply trying to prep the markets for what’s likely going to be a slew of bad data started in 2Q12. We also have to note that stocks took it on the chin last week, so Bernanke could very well be maintaining item #1 on the list above: verbally intervening to keep the markets up.

Big picture: the markets are being held together via a very tenuous balancing act on the part of EU leaders and the world Central Banks. The short-term bias will be bullish due to the factors listed above. But big trouble is lurking just beneath the surface. And should anything upset the current balance being maintained, we could see some real fireworks in the markets in short order.

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Graham Summers

Chief Market Strategist