Montreal, Canada

Markets were already overbought heading into October. Yesterday’s pullback was not a surprise as China triggered a flight to safety, which I suspect won’t derail this rally. The markets enter seasonal strength in November and if we end up with gridlock in Congress on November 2, then investors will probably drive prices even higher. Markets typically enter seasonal strength from November until May.

But it’s worth noting that some dislocations remain or have started to emerge in credit markets since September.

For example, in Europe the credit crisis is perceived to be yesterday’s problem following the May initiative by the European Union to create the European Financial Stability Fund, or a bailout fund for deadbeats in the single currency zone.

For all the talk about how correlations have gone to one lately, the fact that last month’s rally in risk assets coincided with a widening in Irish and Portuguese credit spreads to record highs is a most surprising and unwelcome development.

What’s really depressing is that Ireland is perceived to be the most proactive sovereign nation tackling its high deficits since the credit crisis two years with deep spending cuts; it’s alarming that the markets are applying pressure on Ireland at a time when she’s struggling to keep spending within 2010 budget limits.

Eurozone credit spreads have since narrowed in October and that’s a plus. And, according to the European Central Bank or ECB, emergency credit lines have collapsed since the beginning of the year as the central bank contemplates closing this emergency lending facility. Personally, I don’t believe what the ECB reports; someone is a big buyer of Greek, Irish and other peripheral Eurozone sovereign debt. Who’s stupid enough to buy this paper?

Meanwhile, U.S. bank credit spreads continue to ratchet higher since September as the mortgage foreclosure problem (or crisis) escalates.

Bank stocks have been poor performers lately. Markets will have a tough time mustering additional gains without their participation. But, in all reality, the tab for this segment of the mortgage fiasco is peanuts at roughly $165 billion, maybe $200 billion dollars. Gosh, the Fed can print that sum in just a few hours. Maybe I should buy some publicly-traded paper stocks anticipating a big day at the U.S. Mint ahead of another bailout!

This remains a trader’s market and not a bull market. Before it’s over, I suspect Obama will be a one-term President as he and failed economic policy team bury the economy in 2011.