After a few days of indecision last week, the market decided that Europe was no longer a problem. Despite a lack of detail, the major indices managed to rally almost 4% ahead of last night's EU announcement. Clearly, the market has a tendency to buy the rumor. Will it sell the news? Probably not. 

EU leaders have finally come to an agreement in principle on the three critical issues: bank recapitalization ($150 billion), Greek debt (50% haircut) and expanding the EFSF ($1.4 trillion) in order to make it easier for Italy and Spain to refinance. China is reportedly stepping in as a bond buyer of last resort and the ECB announced that it will also be buying more bonds.

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On Wednesday (October 12) the U.S. equity market posted its sixth advance in seven sessions.

The market mood was boosted by exceptional strength in Emerging Markets, while financials were the strongest sector, up 2.7%. Our Short-Term Model was up 8.1% as of Wednesday's close and our Intermediate-Term Model was up 10.6%.

Contrary to the pessimistic view from the Economic Cycle Research Institute (which says that the U.S. is unavoidably headed for a recession), Philadelphia Fed President Charles Plosser does not believe that growth will contract for two consecutive quarters. "Many of my business contacts suggest that while growth is very sluggish and uneven, they do not see the precipitous declines that many news accounts would suggest."

Plosser is an inflation hawk and voted against both Operation Twist and the Fed's promise to keep rates low through mid-2013. The reason?  Although Plosser expects sub-2% growth this year, he sees nearly 3% growth just around the corner in 2012.

For the past six weeks, the equity market has been bouncing around wildly in a wide trading range driven mostly by news from Europe. As that foreign tail wags our domestic dog, the major U.S. indices can whipsaw 5-10% in a few days in either direction. This is bad enough, but imagine the rollercoaster ride with leveraged ETFs. Thrill rides can be fun, but few find them amusing when one's security is at stake.

That said, our weekly buy candidates are selected based in part on their short-term oversold condition. It is our well-substantiated belief that buying after a pullback provides an entry with the lowest risk and greatest chance of reward. Up to a point, the deeper the pullback, the better the odds of a bounce.

Another way of putting this is that markets constantly fluctuate in a manner that moves from extremes back toward the mean or average price. You might call this Newton's Fourth Law of Motion. It is not a purely mechanical law, however, but rather a statistical law. Our analysis and our trading over the last 18 months have shown that a very oversold instrument is more likely to rebound than to continue on its downward slide. This gives us a powerful statistical edge.

Granted, it is not necessarily a comfortable method for most people. Statistically-based methods never are. It takes "intestinal fortitude" to follow Warren Buffett's advice and buy when others are fearful, but we are convinced that it is one of the best ways to make money in the markets.

The more things change the more they stay the same. Today (9/15) the S&P is trading about where it was last week at this time. Volatility, however, remains elevated. The Volatility Index is oscillating between 30 and 40 as the market is being held hostage to the events (mostly rumors) emanating from Europe. The violent swings, which can be as much as 3% in one day, wreck havoc with short-term trading systems. Ours is no exception.

One can break down the news flow into soundbites for public consumption and more factual reports based on what the professional money is doing. While German Chancellor Angela Merkel and French President Sarkozy confidently reaffirm their position that Greece is too important to fail, European bond investors are pricing in an imminent Greek default and a systemic banking collapse in Europe. The flight to safety is evident in the record low 1.75% yield on the 10-year German bund.

The critical issue in Europe is the amount of Greek bonds held by French and German banks. France is on the hook for about $56 billion, but the total exposure of the global banking system to the PIIGS is around $2 trillion according to the Bank for International Settlements.

Given the ponderously slow and factious political process in Europe, the European Central Bank is the only institution that could act quickly enough in the event of a sudden default scenario. The ECB, however, does not have the same deep pockets as the Federal Reserve. With widespread grassroots opposition in Germany and the German Bundesbank reluctant to support further bond buying from peripheral Eurozone nations, the ECB is likely to run out of funds in the event of a Lehman-like emergency.