The US Dollar has received another prop into Thursday following a Fed rate decision which described the US economy as “mildly strong” and at the same time offered no indication for a third round of quantitative easing. Also seen helping to support the Greenback were ongoing concerns out of the Eurozone after France and Germany announced that Greece would be denied additional bailout funds until after Greece’s December bailout referendum. The G20 summit also kicks off on Thursday and it will be interesting to see if anything material can come out of the event. We suspect that there will be nothing more than political banter and the event will do little to assuage fears of potential contagion.
The economic calendar in Europe is exceptionally light, and market participants will be quick to look past some secondary UK data and towards the key event risk of the day in the form of the European Central Bank rate decision. Mario Draghi will be heading his first rate decision following the Trichet era, and the added unfamiliarity with the central banker could very well throw additional volatility into the mix. The ECB is expected to leave rates on hold at 1.50%, but Mr. Draghi will be in an uncomfortable position with the Eurozone economy showing further signs of distress while inflation levels remain elevated. We do not expect any rate cuts today, but we could very well see a move in this direction should local fundamentals continue to weaken. Mr. Draghi will certainly need to be very careful with his words at today’s press conference.
With all that has been going on in the markets over the past several weeks, we have begun to notice some interesting price action in one particular cross that has been on our radar for the past several months. Despite what has been a very turbulent time in the Eurozone, the EUR/AUD cross rate has failed to post any additional declines beyond its multi-year lows posted back in July just under 1.3000. Instead, the market has since been locked in some choppy consolidation which we contend could be the start to the formation of a material medium-term and longer-term base. Remarkably, this is a market that has fallen off a cliff since posting record highs by 2.1000 in 2008, with the price dropping dramatically down towards record lows in the 1.2000’s. This is a staggering move of 80 big figures in a three year period. However, we have since seen the monthly RSI begin to turn back up from oversold levels, and the indicator is helping to strengthen our trend reversal bias.
Technically, all markets should adhere to some form of mean reversion, and it is clear that this market has plenty of room to correct at this point, to allow for a move back into its average price range somewhere in the 1.5000-1.8000 area. At present, we are currently nearly 20 big figures below the low end of the average range over the past 25 years, and at a minimum, we see good reason for the market to correct back towards this previous support now turned resistance area before even considering the possibility of longer-term bear trend resumption.
However, fundamentally, we do not even see reason from here for bear trend resumption, and in fact would argue that this cross rate is on the verge of a major bullish reversal and start to a long-term uptrend. We must remember that markets do not trade on how bad things are or how good things are at the moment, instead, they trade on what has been priced in and react to what has not. While we concede that the situation in the Eurozone is dire at the moment, we also believe that the worst case Eurozone scenario has now been priced into the market, just as the worst case scenario had been priced into the US economy back in 2008. But with Australia, we do not see the downside as having been priced in appropriately at this point and with yet another wave of the global recession expected to spread east to China (this is what we believe), we see Australia in a position to suffer more than markets had anticipated, which in turn will start to weigh more heavily on the Australian Dollar on a relative basis. We are already starting to see signs of slowing in China, and the RBA has now moved towards a more accommodative stance, recently cutting rates by 25bps.
On the other hand, we also see the cross in a position to benefit if we are wrong (that things will get worse) and the Eurozone manages to exceed expectations and recover more aggressively than anticipated. Any signs of sustained recovery and optimism out of the region will infuse a fresh demand for the Euro currency and in turn, likely result in liquidation in many of the currencies that had benefited as alternatives during the Eurozone crisis. The Australian Dollar is one of these currencies and we would expect that this type of scenario would open the door for a more aggressive reversal of accommodative policy from the ECB and trigger a major narrowing in yield differentials back in favor of the Euro. One way or another, we look for yield differentials to narrow in favor of the Euro currency.
STRATEGY:1)BUY EUR/AUD AT CURRENT LEVELS (1.3300’S); STOP-LOSS ON A WEEKLY CLOSE BELOW 1.2900.2)LOOK TO MOVE STOP-LOSS TO COST AND BOOK PARTIAL PROFIT ON A TEST OF 1.4000. 3)TARGET A MOVE TOWARDS 1.6000 ON REMAINING PORTION OF POSITION.
TECHNICAL OUTLOOK
EUR/USD: Last Thursday’s intense rally has now been completely offset and the market finally looks like it has carved out a fresh lower top by 1.4250 ahead of the next major downside extension. From here, we look for a daily close back below 1.3650 to confirm bias and accelerate declines towards critical support at 1.3145. Below 1.3145 will then open the next major drop towards our longer-term objective into the lower 1.2000’s. Any intraday rallies should now be very well capped ahead of 1.3900, while only back above 1.4250 would negate outlook and give reason for pause.
USD/JPY:Monday’s surge has resulted in an end to a very tight multi-week trade largely confined to the 76.00’s and a likely shift in the overall construct, with the pair carving out a major bottom by 75.50. The price has now broken back above the daily Ichimoku cloud for the first time in several months to confirm a potential shift in the trend, and Monday’s close above the cloud reaffirms. Next key topside resistance comes in by 80.25 and a break above this level will likely accelerate gains and expose the 82.00-85.00 area further up. Look for any intraday setbacks to be well supported above 77.50 with only a close back below this level to delay. Back above 79.55 accelerates gains.
GBP/USD: After stalling by the 200-Day SMA and a major double bottom objective over 1.6100, scope exists for a resumption of what we believe to be a broader downtrend. Look for a daily close back below 1.5890 to confirm and accelerate towards next key support at 1.5650, while ultimately, only a close back above the 200-Day SMA negates.
USD/CHF: The market has been in the process of a major correction since peaking out at 0.9315 on October 6. However, the overall outlook remains constructive, with the pair looking like it is in the process of carving a major base ahead of some significant upside over the coming weeks and months. Look for the latest round of setbacks to be well supported in the 0.8500’s, where a fresh medium-term higher low is sought out ahead of a bullish resumption back towards and eventually through 0.9315. Ultimately, only a weekly close below 0.8500 would concern. A daily close back above 0.8900 will confirm bias and accelerate gains.
--- Written by Joel Kruger, Technical Currency Strategist
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