Typically on Sunday's I do a weekly market outlook, but there's so much happening this week in Forex, equities, commodities, Treasuries, and on the geo-political front, I don't have the time and space to fit everything in. So, for this update I'm going to get us ready for Sunday/Monday trading in addition to hitting some core underlying fundamental factors I feel are imperative we traders need to be mindful of and thinking about as we get ready for what's shaping up to be a challenging summer session.
S&P 500 versus the US dollar index -- Battle of the gods:
In my view, out of all tradeable markets that exist on earth like Forex, stocks, bonds, and commodities, there are just two giants... there are just two 'gods' of the markets, just two leading benchmarks, just two pinnacles of the entire global financial system... those two titans of all tradeable markets are the S&P 500 and the US dollar Index.
Those two 'gods' of the markets are always temperamental, caustic, sometimes unpredictable, and will unleash their fury when least expected, utilizing the element of surprise. As mighty as these two supreme beings sound, it is the war they wage with each other where us lowly traders can capitalize on the acrimonious relationship that exists between the S&P 500 and the US dollar Index.
For over two years I've been teaching traders how to use the correlation between the S&P 500 and the EUR/USD to trade and make money. I'm not going to take the time to rehash that now, but what we're going to do is take a broader and more historical view on the S&P 500/USD Index correlation in order to gauge what the future possibly holds for the markets, specifically the currency market, and even more specifically, the EUR/USD, EUR/JPY, and GBP/JPY. Comparison between historical bull and bear markets with the S&P 500 and USD Index--
As most of you know, my personal philosophy on trading says that because the emotions of fear and greed cause humans to control the prices of all tradeable markets, price action patterns are repeated over and over again, and prices go in a circle, not up and down. So, my goal in taking the historical price action patterns of the S&P 500 and USD Index is to help validate my theories on how the relationship of human-controlled price action leads to specific patterns of behavior within the two 'gods' of the markets, and in turn, how these two supreme beings act as some of the most core underlying fundamental catalysts that drive price action and market trends. The other core underlying fundamentals, of course, are interest rates and geo-political events.
Note: for those of you who are new, just a quick reminder, my theory and philosophy on trading says that a strong inverse correlation exists between the S&P 500 and US dollar, and they they are constantly at battle with each other... in general, when one is up, the other has to be down.
For the purpose of this exercise, I'm going back to just before the Bretton-Woods II era. If you're unfamiliar with that event go back and do your homework, especially if you want to make money trading FX. What I'm going to do here is simply take each historical bull market for the S&P 500 and each historical bear market for the USD Index and compare the two to reveal what kind of correlation exists after the USD Index was established and the US dollar became the world's reserve currency.
S&P 500 bull markets:
10/7/1966 to 11/29/1968. Lasted 748 days. Percentage change: 48.05% 5/26/1970 to 1/11/1973. Lasted 961 days. Percentage change: 73.53%
USD Index bear market:
1/31/1967 to 7/6/1973. Lasted 2,348 days. Percentage change: -24.48%
Between the two bull markets in the S&P 500 between 1966 and 1973, the USD Index remained in a constant bear market... evidence of a clear inverse relationship between the two titans.
S&P 500 bull market:
10/3/1974 to 11/28/1980. Lasted 2,248 days. Percentage change: 125.63%
USD Index bear market:
1/23/1974 to 10/30/1978. Lasted 2,348 days. Percentage change: -25.05%
Four out of the six years the S&P 500 rallied, the USD Index remained in a bear market. Then, the USD Index went on a strong bull market run between 10/30/1978 all the way to 2/25/1985, just over 6-years. During this time, between 11/28/1980 and 8/12/1982, the S&P 500 went through a bear market lasting 622 days and losing 27.11%. So, at this point, the evidence continues to strongly favor the inverse correlation between the two.
S&P 500 bull market:
8/12/1982 to 8/25/1987. Lasted 1,839 days. Percentage change: 228.81%
USD Index bear market:
2/25/1985 to 12/31/1987. Lasted 1,039 days. Percentage change: -48.15%
OK, here we can see an interesting correlation... as we talked about above, there was one S&P 500 bear market during the USD Index's sustained rally, but look what happened when the S&P 500 hit another bear market in August 1987... just four months later the USD Index's bear market was over and the USD Index went on a bull market rally from 12/31/1987 to 6/14/1989, gaining 23.74% while the S&P 500 went on another bear market that lost 33%.
S&P 500 bull market:
12/4/1987 to 3/24/2000. Lasted 4,494 days. Percentage change: 582.15%
USD Index bear market:
6/14/1989 to 2/11/1991. Lasted 531 days. Percentage change: -23.83%
Now, between 2/11/1991 and 7/5/2001, the USD Index went on a strong bull run that lasted 3,797 days. During this time, the S&P 500 went through a bear market from 3/24/2000 to 9/21/2001. That S&P 500 bear market lasted 546 days and the interesting fact is, less than two months before the USD Index's bull rally came to an end, the start of the S&P 500's next bull rally began... more signs of the inverse relationship.
S&P 500 bull markets:
9/21/2001 to 1/4/2002. Lasted 105 days. Percentage change: 21.40% 10/9/2002 to 7/19/2007. Lasted 1,744 days. Percentage change: 99.94%
USD Index bear market:
7/5/2001 to 11/7/2007. Lasted 2,316 days. Percentage change: -37.69%
Now the inverse correlation between the two titans becomes clear as day. The last USD Index bear market ended less than 4-months after the S&P 500's historic bull market ended. The USD Index was brutalized between 2001 and 2007, and even into the first 4-months of 2008 while it's inverse correlated markets continued to make strong gains.
Lets think this through a little deeper... what else happened between 2001 and July of 2008? Well, the EUR/USD was put on the tradeable market, making unprecedented gains all from about 0.8600 to 1.6000, spot crude went from about $20 a barrel to $147, The EUR/JPY went from about 99.00 to 169.00, and the GBP/JPY went from about 165.00 to 251.00.
The future of equities and the dollar--
As the S&P 500 went on a mega bull run it brought the euro, pound sterling, and spot crude with it while sending the dollar and yen to their depths, as evidenced by the 6-year+ bear market on the USD Index. So, what does this all mean for the future of the S&P 500 and the US dollar? If my theory holds true, the S&P 500 will need the USD Index to go lower and bearish in order to rally. Historical price patterns shows that both 'gods' of all tradeable markets cannot achieve supremacy simultaneously, they both can't sit on the throne, one will have to yield power to the other.
If you're a chart-type person, go back and look at how the USD Index has performed since the S&P 500 began its rally on 10-March, you'll see exactly what I'm talking about. Again, in my view, these are some of the deepest core underlying fundamentals of all tradeable markets. We took a very broad view at this inverse correlation, but when it comes to day-to-day trading, I distill it all down on a 30-minute basis and simply trade according to the correlations of these underlying fundamentals.
If you want a good look into the future, forget the lagging indicators and keep an eye on whose winning the battle between the S&P 500 and the USD Index because it's a beautiful leading correlation and about as simple as it gets.
Stress test results delay = bad sign for Wall St. financials:
Is good news ever delayed? I don't think so, nobody delays good news... after delay upon delay, the markets were told and prepared for the results of the banking stress test on 4-May. Now we're being told the results likely won't be released until 7-May at the earliest, possibly even later.
The Fed is either buying more time to perfect a smoke and mirrors act for when the results hit the markets or they are preparing yet another bail-out package because the regulators will reveal what we already know -- the US banking system continues to carry systemic risk of insolvency despite every liquidity and credit scheme enacted by the Fed since March of 2008. There are only 19 banks and financial institutions going through the stress test but those 19 institutions hold roughly 66% of all assets and 52% of all loans in the entire US banking system. Most of the banks being tested, if not all, will need to raise capital and that goes right back to the risk of insolvency.
Look at what Goldman Sachs did just one day before the preliminary results of the test were due to be released back on 1-May... Goldman, the so-called "best and the brightest" on Wall St. made new issuance of bonds and stocks to raise capital. Goldman sold $2 billion worth of 5-year notes and $750 million in a new stock offering, all without government backing. It doesn't take a genius to read between the lines here... Goldman clearly wants to avoid being targeted by banking regulators and they want to pass the stress test with flying colors, so they went ahead and raised their capital prior to the test being completed and the results being revealed.
Last Friday three more US banks failed, bringing the total failures in 2009 to 32 banks. Just from those three bank failures on Friday it cost the FDIC $1.4 billion. Here again we see clear evidence the risk to the entire US banking system goes well beyond the 19 banks undergoing the stress test. I think nationalization is the worst-case scenario result of the stress test, and Wall St., specifically the S&P 500 financials index, will not be happy about one or more of the 19 banks being taken into receivership by the government.
Fundamentals and geo-politics:
This week is going to keep market participant's heads spinning because of the strong mix of key fundamental events and the high level of geo-politics. In addition to the glut of inflation, housing, consumer, manufacturing, and production data on the books this week, there are several monumental interest rate events, plus NFP, plus speeches by various Fed and ECB members, and of course the growing concerns over a potential flu pandemic.
The following list are the fundamental and geo-politcal events I feel are most important this week for the EUR/USD:
Also, both the RBA and BOE have interest rate events this week, the RBA, BOE, and BOJ put out their latest monetary policy statements respectively, and SNB's Roth and Jordan have speeches. All the majors and yen crosses have major fundamentals this week in fact, so stay on the top of your game because these factors are driving money-flows and the sentiment of market participants.
Wall St.:
Both the Dow and S&P 500 managed to put in a continued strong performance the first trading day of May and this is certainly a good sign for the bulls while keeping the bears in the cave for now. I don't believe a bad NFP will be enough to knock Wall St. down, but in order for the S&P 500 and Dow to attract enough money-flows to continue marching forward, the following correlated markets will need to work in Wall St.'s favor:
USD Index moves lower
Spot crude moves higher
10-year Treasury yield remains above 3.00%
Treasuries continue moving bearish on the short-end of the yield curve
No banks become nationalized as a result of the stress test
The thing to keep in mind is, from a pure price action and price behavior standpoint, it takes more conviction buying to drive prices higher than it takes for conviction selling to drive prices lower. Prices of almost any tradeable market will drift lower simply for lack of buying and not necessarily from conviction selling.
Sunday/Monday Trading:
As we noted above, these markets have quite a bit to contend with this week. Trading the first week of the month can be challenging because it's so hectic fundamentally, and that causes many of the big market-movers to pre-position themselves ahead of key events, especially interest rate events. With all the pre-positioning and book squaring that goes on the first week of the month, my trade plan calls for strict risk and money management and paying very close attention to the time of day...
Remember, both the Forex and equities markets follow specific patterns during certain times of the day, like before Frankfurt and London closes, between the time NY closes and Tokyo opens, the 30-minutes prior to the Nikkei's open, the 60-minutes before the European cash market opens, as Chicago future's money-flows hit, etc. Don't let yourself get caught off guard by neglecting the market's patterns of behavior this week...
Gold--
The other market to keep an eye on is spot gold... gold will remain under pressure for as long as the central banks and market-movers like the IMF, World Bank, and BIS continue dropping massive tonnages of gold on the market. This is just my opinion, but I think the central banks are even finding their own reserves to be under-capitalized and they are dealing with this issue by selling gold to raise cash to pump into economic and banking stimulus. The IMF has been the most vocal and transparent about their open-market gold operations and I can assure you all the banks are doing it.
As always, it's imperative you use proper risk and money management this week... stick to taking those 0.5% entries and keeping your usable margin at 96% or better to avoid being held hostage to the market or worse. Small losses are much easier to recover from and it's a terrible thing on the mind of a trader to let a position get too far away or to let the usable margin get too low.
That's all for now. As long as market conditions allow I will do a live audio Q and A in the chat on Monday at 1000 EST / 1500 GMT.
Today was a bit of a historic one for the markets... Chrysler finally filed for Chapter 11 and became nationalized, Obama told the markets the US government will select Chrysler's new board of directors, continuing jobless claims hit an all-time high of 6.27M, Trichet scolded his comrades on the ECB governing council for running their mouths, and little Timmy Geithner was selected as one of People magazine's worlds sexiest people... what a day.Oh, and some maniac tried to take out the Dutch royal family to top it all off.
Eurozone CPI sends euro lower:
One of the main reasons inflation, disinflation, and prices have been a recurring theme in our updates is because of all the underlying fundamentals that move markets, it's right up there at the top next to interest rate monetary policy. At 0500 EST this morning Eurostat released the latest Eurozone CPI flash estimate which printed worse than expected, at 0.6%, and that was even lower than last month's flash estimate.
The lower CPI print stopped the EUR/USD's march to 1.3400 dead in its tracks and we saw the pair correct all the way down to just under the 1.3200 level before finding support. The lower price inflation data out of Europe also contributed to spot crude and spot gold getting hit after the 0500 EST timeframe, pretty much every market that needs the help of inflation price pressures came down just as the fundamentals would dictate.
It took the euro's market correlation to equities to bring it back to life and get it back above 1.3200 after Wall St. opened... the S&P 500 futures and real S&P 500 put in a strong performance right up until Obama's press conference about Chrysler's bankruptcy, then it was back into the red and a close below key price zones for both the Dow and S&P 500...
ECB confused and disjointed:
After a half dozen ECB members spent the past few days running their mouths and talking the euro up and down, Trichet has finally dropped the hammer to put an end to the rhetoric and speculation coming out of Frankfurt and Brussels.
Early this morning ECB Nowotny said:
"Won't comment on non-standard tools before May 7, Trichet asked members not to comment on new tools"
There's a clear divide within the ECB governing council. Some voting members want to take the ECB's key lending rate below 1.00% in addition to circumventing the Maastricht Treaty which currently prevents the ECB from buying EU sovereign debt. Other members do not want the key lending rate to drop any further, they want to scale back on government stimulus, and they would like to allow the fundamentals to dictate future monetary policy.
I've always liked the ECB better than the Fed, mainly because of the fact not every ECB governing council follows Trichet lockstep as members of the FOMC do with Bernanke. The Fed is always singing from the same page and it's rare to ever hear a Fed member give opinions that go off the script, whereas with the ECB, some of their members speak exactly what they are thinking regardless of current ECB monetary policy.
But today's CPI data should further serve to confuse the members of the ECB governing council and cause even further speculation. I can promise you the debate between ECB hawks and doves is really going to heat up next week as we draw closer to Thursday's monumental rate event.
Wall St. rally at risk?
As you know, I gave this bear market rally on Wall St. until May to continue and once we hit the first of May, all bets are off. Tomorrow is the first of May and I'm taking all bets off on Wall St. Again, this is purely my opinion and my own speculation on the near-term future of the Dow and S&P 500, but I'm sticking to that analysis for equities. If I'm wrong, great, that will just make it even easier to trade the yen crosses, I really don't care either way, the beauty of trading FX is being able to capitalize on both the euphoria and misery of market participants on Wall St.
If Wall St. doesn't pullback from these highs, I believe it will need the following factors to work in its favor to continue the rally:
A continued rise in consumer and producer prices
A continued rise in the import price index and employment cost index
Crude sustaining a break above the $50 level and continuing to move higher
The IMF, World bank, and other central banks continuing to sell gold to raise cash to pump in economic stimulus
A stronger overall sell-off of the Japanese yen
The USD Index breaking below support levels
The 10-year Treasury yield sustaining a break above 3.05%
Bottoming in US housing prices and foreclosures
One factor that could lead equities higher--
Rising job losses and a steadily eroding unemployment rate shouldn't have much negative impact on equities. And out of all those factors I listed above, one of them stands out above the rest... should the dollar and the USD Index move lower, equities will not likely be able to do anything but go up regardless of all other factors.
I could be the biggest equity bear on the planet, but it won't matter what I think or anybody else thinks, because if the dollar continues to move lower, the S&P 500 and Dow should go higher, end of story. A declining USD Index will reveal a lack of risk aversion and a greater appetite to send money-flows into riskier markets. Right now that 84.50 zone on the USD Index remains a very key level, and a sustained break below 84.00 would serve to further boost the S&P 500, crude, and of course the euro, cable, and Aussie.
Dear Obama and Granholm: shut up
Obama and the governor of Michigan should keep their mouths shut on this issue with Chrysler and their creditors, get out of the way and let the rule of law go through due process. If creditors don't want to settle for pennies on the dollar, they have every right under the rule of law to do so, that's part of the deal, it's part of the agreement Chrysler makes with it's creditors when they sign those contracts. How is this being greedy? How is it being greedy to fight for what what is contractually owed? Chrysler is liable for its debts and the creditors are under obligation to themselves and their own investors to collect what is due. Chrysler owes the creditor hedge funds $6 billion and the hedge funds should fight for what they are owed.
This politics of all this are disgusting with Obama and the governor of Michigan throwing the word "hedge fund" because they know the term has a bad connotation and conjures sour thoughts in the minds of people who don't have a clue to understand how business works, especially the business of lending and bonds. It's a whole lot easier for politicians to put all the blame on hedge funds to divert attention and explain away the fact that billions of taxpayer money have gone to float insolvent companies like Chrysler. When the politicians blame the hedge funds, it helps get the real facts of the matter off the minds of taxpayers who are also acting as creditors to Chrysler and GM.
Taxpayers and the government expect to be paid back for what they lend to Chrysler, right? Of course they do, so why is it evil and greedy for the hedge fund to expect to be paid back? If you're in the business of credit and lending, the lifeblood of your business is getting paid back by your debtors according to the terms of the agreement. Yes, it's tragic what's happening to autoworkers who are laid-off, but it's ridiculous to put the blame on hedge funds for decades worth of Chrysler's mismanagement and producing some of the crappiest cars on planet earth.
I'm not saying the hedge fund creditors should get every penny they are owed, they are just as stupid for lending money and extending credit to a a worthless, insolvent company, and they need to take their lumps too, but again, they have every right under the rule of law to fight for what they are owed. It's downright scary to hear such strong anti-business and anti-free market rhetoric from the government, especially from the so-called leader of the free world.
What kind of example is the government setting for young people? What kind of message are they sending to kids who want to understand how business works? The message is... if you're in the business of turning a profit, you're evil and unpatriotic. The government is also sending the message that failure is never an option and if you are about to fail, somebody with more money than you will come along to the rescue. I hope Chrysler's creditors drag this whole thing out in court and it ends with Chrysler's complete destruction. Somebody needs to fail, Wall St. needs a failure and the economy needs to deal with a failure. Kids needs to see that not everybody makes it and it's a cruel world sometimes, but that's the way life goes.
Thursday trading:
Don't forget tomorrow is a European holiday and most Euro banks will be closed which means Friday trading conditions will be even more ill-liquid, leading to the potential for sharp price swings.
EUR/USD--
There are three key pieces of USD fundamental data released tomorrow that may add some price volatility. The first is the Michigan Sentiment which I believe may print at or just under expected. Not many in the state of Michigan have much to be excited about these days, so I don't expect any big upside surprise there.
The ISM Manufacturing and ISM Price Indexes are also critical. I believe ISM Manufacturing may show an improvement over last month, but I'll be most interested to see how ISM Prices print. I know I probably sound like a broken record, but inflation and prices are going to be the key to recovery, especially for equities in addition to non-risk aversion currencies like the euro, pound, and Aussie. If ISM prices show upside it would certainly be a better sign for Wall St. and economic recovery. I believe disinflation remains a viable risk on the markets, so keep you eye on that data.
That's all I've got for now. I'm about to head out of town and I'll be gone for a few days, however, I will have an update on Sunday to get us ready for next week's trading. If you do trade tomorrow be smart with your risk and money management as Friday's are usually the day traders give most or all of their weekly profits back to the market.
Yet another wild day in the markets... between GDP, FOMC, various central bank rhetoric, Wall St.'s rally, Treasuries getting hammered, the swine flu alert being raised, and Chrysler teetering on bankruptcy, all markets saw strong price action volatility across the board.
How abysmal headline growth data sparks a rally:
I was shocked to see it but I think we actually got some truth this morning with the latest GDP data. The headline number showed contraction of 6.1% in Q1 while Q4 was revised even lower to show contraction of 6.3%. Yes, those numbers are ugly and I'm sure quite a few market participants were expecting the S&P 500 and Dow to get hammered on this data, but that was certainly not the case. About the only thing that got hammered was the USD Index and Treasuries.
The headline numbers really didn't matter, especially to those that move markets. It was the underlying fundamentals contained within the GDP report that sent money-flows into risk markets like equities, crude, gold, and non-risk averse currencies such as the euro, pound sterling, and Aussie, and out of the dollar, yen, and US Treasuries. When it comes to using the fundamentals to gauge market direction, sentiment, and where money-flows will go, the thing I do is breakdown the entire GDP report to get a full and well rounded view for how markets should react.
So, what I'm going to do here is go through what I saw in the GDP fundamentals that explain why the markets reacted the way they did; this is the exercise I go through in my mind whenever we get a major piece of fundamental data that will cause strong price action volatility. And GDP is certainly one of those fundamentals that impact money-flows and sentiment. Prices and inflation--
As we've talked about several times the past few weeks in the updates, prices and price inflation are a major catalyst that either drive markets up or drive them down, it's a very simple correlation. Here's what today's GDP data revealed about 2008 Q4 and 2009 Q1 prices/inflation:
GDP price index for domestic purchasing:
-3.9% in Q4 2008 -1.0% in Q1 2009
GDP price index for domestic purchasing ex food and energy:
+1.2% in Q4 2008 +1.4% in Q1 2009
Those numbers are pretty cut and dry. The plunge in consumer price inflation that hammered equities in Q4 of 2008 is subsiding and this is the kind of fundamental data that leads to higher prices of equities and money-flows that go out of the USD, JPY, and Treasuries and back into those higher risk markets. These price and inflation numbers are what I consider to be some of the core underlying fundamentals of what moves markets and money-flows and it's glaringly obvious why equities have recovered in 2009. The correlation between prices, inflation, and equities shows part of the story for why and how equities have been able to recover, these fundamental correlations are working just as they should should be and even though there are signs of disinflation within other fundamental data, this GDP report reveals possible resurgence of price pressures.
Consumption expenditures--
Next on my list is to see what consumers are doing with their money... are they behaving like consumers or are they still stuffing cash in their mattresses? Well, lets find out.
Real personal consumption expenditures:
-4.3% in Q4 2008 +2.2% in Q1 2009
Now lets look at the durables goods data. Remember, durable goods are those bigger ticket items like appliances.
Durable goods consumption:
-22.1% in Q4 2008 +9.4% in Q1 2009
Seeing a trend here? It doesn't even matter if this data is fudged, it's all we have to work with and it's telling us the consumer is beginning to recover, the consumer is spending more money and gaining confidence, therefore, prices are going up and when market movers see this kind of data, they pile into non-risk aversion markets and drive those prices up too.
I don't have the time to break down the entire GDP report, but those are some of the main highlights and the key underlying fundamentals that act as catalysts to drive markets and money-flows. With data like that the S&P 500 and Dow couldn't do anything but go up. And with the correlation that exists between equities and currencies, pairs like the EUR/USD, GBP/USD, EUR/JPY, GBP/JPY, AUD/USD, and AUD/JPY also couldn't do anything other than go up.
Will a GDP report like this one keep prices surging perpetually? No of course not, most of the time the bulk of the reaction is just during that trade day, but trying to short against those fundamentals was a losing battle for those who were brave enough to attempt such a move. Where price action trading comes into play is by waiting for those markets to exhaust themselves and then playing the retracement. For the euro, after it took out stops at the 1.3340 level, it finally reached the point of exhaustion which also corresponded to another price action pattern of the euro where it over-exhausts itself after moving 220-points or more in a trade day, and our bottom to top move was from 1.3119 to 1.3342.
For those traders who do use charts and tech indicators, the same principle would apply here... trying to go against strong fundamentals wouldn't work for most of the day while market participants were acting euphorically based on a few pieces of data that will soon be forgotten by the news traders but as this euphoric response died down and their money-flows could no longer sustain the upside moves, then it becomes time to play the over-exhaustion retracement.
Note: if you'd like to read an old commentary I wrote on 8-Feb 2008 where I talk about that EUR/USD 220-point price action pattern, you can read it here.
Wall St. continues rally, Treasuries get hammered:
In our Sunday update we talked about how Wall St.'s rally would continue this week, helped by Treasuries turning lower as they continue losing their bullish momentum. We saw this all play out beautifully today as the S&P 500 and Dow surged to the topside while the 10-year yield sliced right through the 3.00% level, going as high as 3.10% just after the FOMC statement was released.
Overall the markets continue to show a healthier risk appetite even though a significant amount of risk remains in the global economic system. What else contributes to surging equities, currencies, and falling Treasuries?
Crude--
In addition to sharp negative growth in the US and around the world, today's Crude Inventories showed yet another build of 4.1 million barrels while distillate fuel inventories increased by 1.4 million barrels. In total, commercial petroleum inventories saw an increase of 5.5 million barrels. In other words, there's a whole lot working against crude right now yet it remains resilient and as long as crude stays supported and participants buy it on the dips, crude's support will boost equities along with the EUR/USD and EUR/JPY.
But, Wall St. does have at least one obstacle it will have to contend with... Chrysler bankruptcy--
About an hour before Wall St. closed a few announcements from Chrysler came out signaling a move closer to the bankruptcy stage and almost instantly as this news hit the wires we saw the S&P 500 and Dow back off from their highs above key resistance levels. Sources close to the deal said they were unsure whether or not the conglomerate of hedge funds who hold 30% of Chrysler's debt would be willing to go along with the deal. If the hedge funds don't agree there's almost a 100% probability Chrysler will be forced to file for Chapter 11 and restructure, regardless of Fiat.
The government already brokered a deal with the UAW, so if Chrysler can ink a deal with Fiat in addition to the hedge funds agreeing to their own deal, the likely scenario would be for Chrysler to restructure outside of bankruptcy with the help of the US government. That's the deal Wall St. wants. Should everything fall through for Chrysler, a bankruptcy announcement could come at any time tomorrow or Friday at the latest, so keep your eyes and ears out. FOMC:
Today's FOMC ended-up being a non-event for the most part. They made no move on rates, they didn't announce any plans to buy more Treasuries, and just as the great Bob Ross would say, the Fed painted "happy little signs" of economic recovery and an easing of the recession. I really don't have much else to say about the FOMC statement, you can read it here if you like.
Thursday trading:
Earlier this evening the RBNZ dropped their interest rate by 50bps and the NZD/USD got hit right off the bat, dropping almost 100-points. Don't forget we also have a BOJ rate event later on this evening or early morning. Be on the lookout for their announcement anytime after 2300 EST.
Euro--
Fundamentally, the big event for the EUR/USD is the latest Eurozone Flash CPI Estimate. I'm not expecting a negative print here but wouldn't be surprised to see it come in at 0.5% which is a slightly under forecast. I'm not expecting a hotter than forecasted print.
Dollar--
There's quite a few key USD events on the books tomorrow. For me, I'll be closely watching Initial Claims, and both sets of consumer and inflation data (Core PCE, ECI). In addition, the markets will also get Personal Spending and Chicago PMI which will be watched by market participants. Overall, I'm not expecting any major downside shocks with this data and any upside surprises should be met cheerfully by Wall St.
EUR/USD & EUR/JPY--
Look for the euro cousins to maintain their tight correlation to the S&P 500, S&P 500 futures, and crude on Thursday. If you are a euro trader, technical, fundamental, or otherwise, it's imperative you keep alert to any rhetoric coming out of the ECB tomorrow and Friday. On Monday the ECB were out talking the euro down, yesterday they were out talking the euro up and the last we heard from the ECB, they were still talking the euro up.
Here's what ECB Juergen Stark had to say today:
'In the heat of the debate it's important not to lose sight of the limits to monetary policy; other central banks can't be role models for us because they operate in a different environment; we Europeans should focus on our own economic policy principles, the laissez-faire approach failed'
Well that was pretty much a big slap in the face to Ben Bernanke and his comrades at the Fed and Treasury. It's obvious Stark doesn't want the ECB to go down the route of loose monetary policy and forced currency devaluation like the Fed. Next week's ECB rate event is going to be a lot of fun...
And while we're on the subject of geo-politics and verbal manipulation from central bankers... the past two weeks or so I've been getting a lot of email about EA's, trading robots, and specifically this thing called Fab turbo or something like that. So, I have a question for those who do use trading robots, how do trading robots account for situations like we've had this week where the EUR/USD moves 100+ pips based on rhetoric from a central banker?
Specifically, I'd like to know how an unmanned trading robot knows or can comprehend that a geo-political event or rhetoric from the ECB or Fed is what's causing volatility and price action? If somebody wouldn't mind taking the time to explain to me how a trading robot or EA makes provision for when a central banker uses verbal manipulation, I'd really be curious to understand it. All I'll say on that matter is, if any traders do entrust their risk capital to one of these robots, it might be a good idea to get that question answered for yourself, I'm not always going to be around in the chat to alert everyone when somebody from the Fed or ECB uses rhetoric to push the euro or dollar around.
Sticking to the theme... be smart and disciplined with your risk and money management tomorrow. With all the data, geo-politics, possible bankruptcy announcement from Chrysler, and the ECB on the verbal manipulation warpath, those sharp price swings can come at any moment. As bearish as I remain on the euro, I'm even more bearish on the dollar while equities and crude stay supported and continue being bought on the dips.
Key levels will be posted in the morning.
-David
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I haven't heard much talk or speculation in advance of tomorrow's FOMC interest rate meeting which is surprising to me. I suppose market participants think the Fed can't possibly lowerrates, so it's not worth paying much attention to, but I don't necessarily agree with that view.
Fed funds lower?
Although the effective Fed Funds rate is currently set within a band of 0.00% to 0.25%, there's actually room to take that trading band lower. The Fed could pull a BOJ-type move and drop the Fed Funds trading band to something like 0.00% to 0.10%. Although I give this type of move a lower probability I'm not ruling it out and I'm prepared to see it. If the FOMC did further reduce the Fed Funds trading band obviously the USD would come under pressure, sending the USD Index lower and majors like the EUR/USD, GBP/USD, and AUD/USD higher. But, there's an even greater risk on the dollar tomorrow... Expansion of Treasury purchases--
The more viable and probable risk on the dollar is that the FOMC announces further plans to expand their quantitative easing program. At the last FOMC meeting the Fed announced their plan to buy $300 billion worth of Treasuries. If you're new to the market or don't remember how it all played out, I'd encourage you to re-read my market commentary from that day for a re-fresher.
So, the biggest risk for the dollar will be an announcement from the Fed in the FOMC statement that they are further expanding their quantitative easing, which is really nothing more than forced currency devaluation and price-fixing of interest rates. I think if the Fed announces they are further expanding their balance sheet, the USD Index will come under pressure and the dollar would be sold-off across the board.
At this point the Fed's ability to price-fix Treasuries, which were supposed to lead to lower mortgage rates, hasn't exactly worked the way they planned. Since the start of their quantitative easing in March, Treasuries have turned bearish and have lost... so far in April Treasuries lost over 1% after losing almost 1.5% in Q1. Go Fed go!
There's really no way to predict whether or not the Fed will announce new plans to further expand their $300 billion program to buy Treasuries but it is my opinion the Fed has to expand the buying program. In fact, I give the Fed a 70% probability of announcing this to the markets tomorrow. Again, this is just my opinion and it's pure speculation. And even if they don't announce it tomorrow in the FOMC statement, I still believe their Treasury buying program will have to grow to at least $800 billion in the near-term.
FOMC statement--
Besides the Fed possibly dropping Fed Funds and announcing new measures to buy more Treasuries, it will be critical to dissect the FOMC statement because the statement will tell us about the Fed's current views on inflation, growth, housing, jobs, and the consumer. I would expect to get a lengthier FOMC statement tomorrow with more detail than what we've been given in prior statements.
In recent weeks Bernanke has been talking about positive signs in the economy. He and some of his comrades at the Fed have been subtly telling the markets that the "worst of the worst is over" in order to sustain the slight amount of confidence being built with market participants. Here again, there's no way anybody can predict what will be contained in the FOMC statement, but I'm fairly certain the markets will not get hit with any shocking or alarming rhetoric and I think the overall picture the Fed wants to paint is a brighter one.
Real-time price action example for trading EUR/USD:
Many traders who are new to understanding and using price action and the market correlated variables often ask me to explain how it all works and how they all tie in together. Well, this morning the market gave us a beautiful example for how it works and how my system takes this real-time market data to show trades that carry 95% or better probabilities of paying out.
At the 1100 EST / 1600 GMT timeframe the EUR/USD made six consecutive highers, which also corresponded perfectly to the euro failing at the 1.3085 upside key level, the S&P 500 futures (ES_cont) failed to break the 855 level after making five consecutive highers, and then spot crude failed to even get to the $50 level after making several attempts and it dropped to test the $49 level.
That's what I call a silver-platter trade... let me break it down another way:
EUR/USD made a sequence of six consecutive highers
Four of the six consecutive highers had a pip differential of at least 15-pips per higher
S&P 500 futures made five consecutive highers
Spot crude failed to break $50, moved lower
EUR/USD failed at upside key level of 1.3085 after making three attempts to break higher
So, with all that data my criteria to take a EUR/USD short at 1.3085 was met. And, based on the number of consecutive highers, based on the sequence of pip differentials, based on the price action of the EUR/USD's market correlated variables, my system showed a 98% probability of a short at 1.3085 paying me a minimum of 20-pips, and this probability is based on almost 8-years of pure EUR/USD price action patterns in addition to how equities and commodities impact upside/downside moves for the euro.
At 1142 EST the EUR/USD hit 1.3065, my 98% probability was achieved and my trade paid-out, the trade took well under an hour to pay, I had zero drawdown, and not a care or worry in the world unless an unforeseen geo-political event or rhetoric from a central banker changed the gameplan. Fortunately that was not the case and I got my 20-pips with no stress.
Probabilities are the key--
Not every trade is going to run that smoothly and be that easy, that's just not how this market works, but in terms of not having to worry about my entry, it's a piece of cake because the whole basis for my trade is simply a probability. And it's a probability based on thousands of repeated patterns caused by human behavior, behavior that is driven by two things -- fear and greed. And that's how it works.
Is 20-pips a big deal? Of course not, lots of traders can make 20-pips but just as fast as they can make those 20-pips they'll give back another 50-pips or to the market. So the other reason I prefer to trade on probabilities is because of how it takes away the stress of drawdowns and making knee-jerk, emotional reactions which cause unneeded losses.
Plus it prevents me from being on the wrong side of the market. That short I took at 1.3085 means another trader took a long there and that trader bought at the top of a move while my probabilities were showing me it was time to short because the market had over-extended and exhausted itself and it would need to pullback before potentially testing the upside again in the future. There's no chart or tech indicator on earth that could tell me every time that exact sequence played out with the EUR/USD's 30-minute openings there's a 98% payout probability if I took a short at 1.3085, and those price action patterns that reveal the probabilities are why it negates the need for me to even look at a euro chart let alone depend on lagging indicators.
But, the EUR/USD downside didn't last long and I was glad to take my 20-pips because the markets were hit with more surprise rhetoric from an ECB member...
ECB talks euro back up:
Around 1228 EST this afternoon, as the euro was comfortably under the 1.3100 level, ECB's Bini Smaghi turned things right around with these comments:
'ECB's non-standard measures will be different from Fed; sees problem buying government debt'
On the quantitative easing issue, Bini Smaghi was very clear on his opinions:
'Quantitative easing make sense only when the interest rate is at zero or very close to zero; bringing the main policy rate too close to zero would risk hampering the functioning of the money markets as it would reduce the incentives for interbank lending'
Just as we talked about in yesterday's update, here again we have a scenario where central bank rhetoric moves the EUR/USD, and in this case the rhetoric was EUR+ sending the euro to the 1.3150+ level within two hours after his comments hit the news wires. And now we have a situation where the ECB governing council is clearly divided on the path the ECB should with their key lending rate and how the ECB should proceed with buying debt.
The Maastricht Treaty clearly forbids the ECB from buying government debt like the Fed is doing. Special provision would have to be in order to grant the ECB authority to buy German bunds or the sovereign debt of any of the sixteen EU members. I don't really see it happening but I also have no clue what the ECB's been up to the past 30-day, and there's no way of predicting what kind of backroom political deals are going down to facilitate the needs and desires of the ECB.
No matter what, with all this rhetoric flying around and various members of the ECB governing council talking out of both sides of their mouth and disagreeing on monetary policy, you can expect another circus sideshow at the next ECB rate event.
Wednesday trading:
Surprise, surprise... Consumer Confidence printed better than expected but I think we all knew that was going to happen anyway. But for tomorrow, in addition to the major FOMC event, the markets will also have to contend with US Advance GDP. This is a major piece of fundamental data and it should not be pretty. Unfortunately, I have little faith the truth will be told, especially based on recent data trends with the fundamentals. But, I do have a forecast for GDP, and my forecast is based on fact, not fiction. My forecast is for a print of -5.2%. Do I think we'll see it? No, probably not, we may see even lower than -4.5% if they want to continue playing the smoke and mirrors game, but be prepared for a volatile response in the markets no matter what the print is.
Euro--
There aren't any fundamentals that the market would consider "major" but they are to me, specifically the M3 and Private Loan data. The Eurozone needs M3 to keep moving up, not moving down and they need the velocity of their money-supply and monetary-base to start going the other direction because there's a serious threat of disinflation in the Eurozone right now.
Kiwi--
I'm not a NZD trader but it's important to note the RBNZ has a rate decision and monetary policy statement event at 1700 EST on Wednesday. Most forecasts are calling for a 50bps reduction in the RBNZ interest rate and anything more than that in addition to announcements of looser monetary policy should likely send the Kiwi lower. It could present a good opportunity for interest rate traders. I'll definitely be watching that event and making an interest rate-based trade if the opportunity is there.
JPY--
The BOJ also has an interest rate event on Wednesday. The BOJ doesn't have a set time, they meet and then make their announcement whenever they feel like it, but be on the lookout for their decision anytime past 2300 EST. With their interest rate already at 0.10% there's only a tiny bit of room they can go to further reduce rates, I suppose they could just knock them flat to zero but I'm not expecting this. What yen traders need to be ready for is the BOJ's monetary policy statement.
If the BOJ wants the yen lower, which surely has to be the case, they may use their monetary policy and statement to send it lower. Economically, Japan remains in a dire situation and a strong currency is one of their worst enemies right now.
Lastly, in the spirit of things, I'd like to give my own personal report card for the Obama administration's first 100-days in office:
Spending $1.1 trillion bailing out insolvent companies: F
Nominating tax-evaders to high level government positions: D
Exceeding George Bush's prior record-breaking deficit spending: F++
Launching the promised 500K new "shovel-ready" jobs by Q2: F-
Granting unconstitutional powers of authority to the Fed and Treasury: F+
Creating the largest budget in US history for a single year ($3.6 trillion): F+
Asserting government control over CEO's and corporate management: F+
Increasing government funding for education, science, and technology: D-
First lady gains fame for her $5,000 dresses while 6.1 MILL are unemployed: F-
Adding 14 new "czars" to positions to expand government control without congressional oversight: F-
On a positive note, I think one of the best moves the Obama administration has made was submitting a bid for the US to host the World Cup in 2018, other than that I'm not seeing much to get excited over... and just for the record, I'm 100% bi-partisan, I don't like or trust Democrats or Republicans, they are both devils and having just a two-party system in a so-called democracy is a joke.
That's all I've got for now, as always, be smart with your risk and money management, especially with the big central bank interest rate events tomorrow, it could be a wild one...
The sharp drop on the EUR/USD on Monday afternoon was a gift from ECB Ewald Nowotny. He wasn't the only ECB member that gave strong rhetoric on interest rates today, there were more and we'll get to those in a moment. But here's what Nowotny said to send the euro plunging against the dollar and yen:
'ECB rates to stay low for a long time. ECB ready to use quantitative easing if needed'
Nowotny's comments hit the news wires at 1300 EST and within just one 30-min EUR/USD timeframe the euro opened lower by 105-points and it was a beautiful move.
If you remember last month Trichet hinted to the markets that 1.00% was basically the ground floor for the ECB's key lending rate but now as we get closer to next week's ECB rate decision we're starting to hear otherwise from members on the governing council. One of the main reasons the euro was able to recover and stay fairly well support over the past week was due to the fact market participants were under the assumption the ECB was not going down the road of loose monetary policy and they would not take interest rates lower than 1.00% nor would they keep rates low for an extended period of time. So, the euro began moving up in anticipation of next week's rate decision and the general thought that the ECB would not become the Fed. Time for some second thoughts...
Earlier in the day before Nowotny's comments hit the wires the euro was somewhat supported above the 1.3120 level but struggled to continue higher and was unable to test and break the 1.3150 level after these comments by ECB Wellinck hit the market:
'European Central Bank policymakers should discuss cutting interest rates below 1%'
After Wellinck's rhetoric hit I was surprised to see the euro manage to stay above 1.3100 but I suppose the market was just doing as the market does... letting traders pile into the end of an upside move before turning it around on them. Wellinck went on to say: 'This is part of a discussion we should have in the Governing Council. Of course that should be discussed'
Wellinck's Irish ECB comrade, John Hurley, said:
'I cannot exclude the possibility that the Council may -- in a very measured way -- further reduce the main policy rate'
But wait, it gets even better... Nowotny also said: 'Sees disinflation in Eurozone'
Remember what I said about disinflation and how it would hurt the euro? Both sets of rhetoric from Wellinck and Hurley came out hours before Nowotny's, so there was plenty of time for market participants to get out of their euro longs and get in on the short-side, and plenty of time for the brokers to collect more euro long contracts from their retail customers who don't pay attention to the fundamentals and interest rate rhetoric.
That's all I'm going to say on this stuff, I don't want my commentary to sound like a childish "I told you so," but the point I'm laboring to make is, if there's any traders who do not follow central bank rhetoric, especially rhetoric on interest rates and inflation, now might be a good time to consider doing so because they are impossible to fight against. Wall St. gets a touch of swine flu:
During the mid-morning session the Dow and S&P 500 were in the green and stayed mostly supported but as we got into the afternoon more reported cases of swine flu began hitting the wires and equities went from green to red... with each new report that hit the wires equities took a hit, it was actually pretty fun to watch. The S&P 500 futures made decent gains off their lows and were also strong into mid-morning NY but here again, as those swine flu outbreak reports gained momentum, correspondingly the S&P 500 futures gained just as much downside momentum.
As we talked about in the previous update, this swine flu thing is what I consider to be an unforeseen issue and a geo-political event that has a definite impact on the markets... it causes risk aversion which leads to a stronger USD and JPY, lower equities, higher Treasuries, and general weakness in commodities, especially those linked to agriculture and food. At this point I wouldn't consider the swine flu issue to be a critical geo-political event until it's officially declared a pandemic. For now, I'd say this is just spooking the markets and causing knee-jerk reactions.
Lessons in human behavior and price action:
I think today's geo-political events offer valuable lessons for traders on exactly how human behavior impacts price action and price momentum in all tradeable markets. I'm going to expand on what I was talking about in the previous update now that all markets have had at least one trade day to digest the information and then respond...
In Forex whenever we have this type of geo-political event, the risk aversion aspect drives market participants to buy the USD and JPY while sending currencies like the AUD, NZD, CAD, EUR, and CHF lower. The question is, why would this happen? It has to do with how a global pandemic impacts growth and trade, specifically how it impacts GDP. America and Japan are considered relatively "safe" economies (don't laugh) whereas places like the Eurozone and South America are considered less safe and generally carry a higher level of risk. So when there's a situation like this one where GDP and global trade becomes at risk, human behavior drives money-flows into the "safer" currencies like the dollar and yen, and it's all connected back to GDP.
For equities, it's even simpler and clearer how human behavior drives price action... look at who won and who lost on Wall St. today:
Airlines - lost
Hotels - lost
Agriculture - lost
Pharmaceuticals - won
Health care - won
Biotech - won
Publicly traded companies that are in the travel and leisure sector, the farming and agriculture sector, and those connected to the agriculture commodity sector were hammered on Wall St. by market participants. On the flip side, this geo-political event brought the pharmaceutical, biotech, and health care sector surging back to life. It was like a total cathartic moment for names such as Novavax (+79% gain), Biocryst (+75% gain), Pure Bioscience (+56% gain), and Sinovac Biotech (+39% gain).
I'm not a stock trader or stock expert but I don't have to be, this is pure human behavior at work and a brilliant example, courtesy of the markets, for how fear and greed drives humans to make the decisions they do and how those decisions drive price action. Even though this is a lesson on a grand scale, it's exactly how I trade FX on a daily basis, it's no different at all because every trade day there are events just like this one, mostly on a smaller scale, that cause price fluctuations in the Forex market and the markets that make-up it's correlated variables.
Take the plunge in the EUR/USD as another example. We had a geo-political event that involved central bank rhetoric on interest rates. That single event caused market participants to react, it drove humans to make decisions and those decisions had a direct impact on price. It wasn't because the euro hit a Fibonacci line or a pivot point that it instantly decided to drop over a 100-points in a matter of minutes... and the great thing about Forex is that these types of events happen almost every day and we traders can capitalize on them in addition to capitalizing on the reaction that comes after those markets have over-extended and exhausted themselves.
Tuesday trading and fundamentals:
OK, so Wall St. ended the day lower, however, the S&P 500 and the Dow were able to sustain above key support levels despite a stronger dollar and yen, weaker crude and euro, stronger Treasuries, GM announcing 21K new layoffs and taking their Pontiac brand out to the field to be shot like an old cow, and the potential start for a swine flu pandemic which would put a serious hurting on the already fragile global growth situation. Not too shabby.
Those are the kinds of reasons why I've been saying Wall St. equities should remain supported into the first of May, but I'm not going to call this anything other than a bear market rally, I've not changed my mind on what I think these moves in equities are. The main reason I see risk on equities starting sometime in May and especially as we get into the summer session is because of the utter lack of liquidity and lack of market participation that will hit the markets in the coming weeks.
The S&P 500 and Dow aren't surging topside like they were just two weeks ago but I think the bears are pretty freaked out right now and are too scared to hammer stocks like they did prior to the start of the bear rally on 10-March. There are a lot of bears out there and I believe if summer trading conditions are favorable to potentially send Wall St. lower, the bears are going to jump on the opportunity once they see equities beginning to fracture. And as that fracture takes hold, you know how it goes... all the bears pile in short, drive stocks lower, then the bulls freak out and start panic-selling, and that puts a lid on the bear market rally and we test lows and support levels. Tuesday fundamentals--
Tomorrow is a big day for all markets because we get two key pieces of fundamental data: S&P/Case-Shiller Index and even more importantly, US Consumer Confidence. In my view, the world is depending on American consumers to help turn the global financial turmoil around. It won't be consumers in Asia, Europe, or other emerging markets. They don't have the buying power to make it happen, it's up to the good 'ole American consumer. I don't care what some analysts are saying about China being the economy that ends the global recession, I'm not buying it. If anything the Chinese could hurt the situation if they get serious about selling the USD and discontinuing their purchasing of Treasuries.
I don't have a forecast for Consumer Confidence because I don't even halfway trust any of the data we're getting from the government. That being said, the recent trend with this type of data, i.e. data that makes everybody happy, has been to print better than expected, so I suppose we can expect a happy number.
Euro fundamentals and euro risk--
Tomorrow we get German regional CPI prints and these will be important to watch for one specific reason... can you take a guess why? It's something we've been talking about for the past few weeks and which was noted by our friend Nowotny -- disinflation. I believe if the markets see disinflationary conditions it's only going to serve to further pressure the euro. The other risk for the euro is continued verbal manipulation from the ECB to knock the euro lower and prepare the markets for some surprises at the next ECB meeting. Even Trichet is starting to hint at unveiling what he calls "non-standard" measures at the next meeting.
Swiss risk--
At 1100 EST / 1600 GMT, SNB Roth is scheduled to speak in Zurich. The reason why Roth's speech puts risk on the CHF is because it's abundantly clear the SNB wants the Swiss franc to devalue as much as humanly possible. The market hasn't really been cooperating to meet the SNB's desire for a weak and devalued CHF, so that means a central banker like Roth could use an opportunity like this to hit the markets with verbal manipulation to send the franc lower, so be on the lookout for sharp moves with the EUR/CHF, USD/CHF, GBP/CHF, and EUR/USD during his speech.
Geo-politics and USD Index--
Geo-politics is the biggest risk facing all markets right now. If the swine flu situation gets declared a pandemic, look for equities to get hammered and risk aversion to take hold in the markets. All the major currencies are at risk of rhetoric and verbal manipulation, especially the CHF and EUR respectively. Spot crude's still flirting with the $50 level and its price action will also weigh positively or negatively on the markets based on whichever direction participants decide to take it, keep your eye on that correlated market.
The other factor is the USD Index and how these geo-politics will impact that key correlated market... it did gain some ground today but ran into that old resistance level around 86.50. In my view, the USD Index is sorta stuck between 84 on the bottom and 87 on the top. Those support and resistance levels will need to sustain a break in order for the majors and yen crosses to break out of their respective ranges.
Alright, that should give us plenty to think about over the next 24-hours. As always, be smart and savvy with your risk and money management.
For this week's market outlook I cover a lot of ground and I'm going in all kinds of different directions with all tradeable markets -- Forex, commodities, equities, bonds, but I'm going to finish it off with a few basics we traders need to keep in the forefront of our minds aswe navigate our way through all the fundamentals, geo-politics, and manipulations that effect moves in the markets.
There are many complicated factors at play right now and the best way we can combat all the "noise" is to keep it simple, stay focused on the underlying fundamentals that move markets, and not forget the core basics for how and why we take a trade...
The cousins of Forex:
The final two days last week while I was trading the yen crosses I noticed an interesting correlation shift between the yens and their majors, specifically between the EUR/JPY and its cousin, the EUR/USD and the GBP/JPY and its cousin, the GBP/USD. I'll get to that part in a moment, but before we dissect that potential correlation shift we need to put some things in perspective in regards to the Japanese yen.
Overall, the JPY put in a rather strong week, especially against the USD, even in the face of equities that were able to rally after selling-off earlier in the week. Under "normal" market conditions, the exact opposite would have been the case as riskier appetites send their money-flows into equities and out of the yen, and based on that fairly solid and steady market correlation, the yen crosses would have been driven higher as the S&P 500 and Dow made back their losses.
That wasn't exactly the case for one of the two yen crosses... earlier in the week I gave a GJ support level of 141.50 which did manage to hold solid all week, but there was a definite shift in the correlation between the GU, GJ, and equities... both the EUR/USD and GBP/USD managed to put in a rather strong performance on Thursday and Friday, however, the GBP/JPY sold-off to a much larger degree than the EUR/JPY even though they generally follow each other when equities are strong and their cousins remain well supported, which was the case at the end of last week.
On Friday the EUR/JPY made its high for the day and remained well supported to the upside just as the EUR/USD was putting in the same exact performance. The GBP/USD also remained fairly supported yet the GBP/JPY was sold-off with conviction. As the euro was testing the 1.3300 level its cousin was testing the 129.00 level, which were their top of the range highs, correspondingly, while the pound sterling was testing its highs at the 1.4770 level and was able to remain supported above 1.4700, the GJ was plummeting down to the 142.50 level which was 200-points lower than its high. Within the GJ's price action it showed zero signs it should be bought and was screaming "sell me" from the time NY opened and right through the close.
So why would the EU and EJ maintain its positive correlation and maintain its ability to move in tandem with equities while the GU and GJ went in opposite directions? Now before we go any further, let me just say this is my own theory and opinion, so take it for what it's worth...
As technical as the GBP/JPY may be, the markets were hit with some massively negative fundamental data out of the UK and even though the GBP/USD found a way to recover back above the 1.4750 level on Friday, I think it's possible the pound sterling/yen correlation is showing risk aversion towards the UK economy, based on the UK's fundamentals which are growing alarmingly negative.
The dollars fundamentals were bad last week and the yen gained a lot of ground on dollar. The euro's fundamentals were great last week and the euro gained on yen. The pound sterling's fundamentals were abysmal and the yen gained on the pound... are you seeing a pattern here? I am. As risk aversion still remains the order of the day, to me it's obvious that the yen was the weakest against the currency which had the strongest fundamentals, and that currency was clearly the euro, not the dollar or the pound sterling.
So, what exactly is putting the pound at such risk? Read on...
UK sovereign debt risk:
Last week Chancellor Darling announced the UK's need to borrow and print more money, grow the debt-to-GDP ratio, and to raise taxes. I won't waste time re-capping those issues, I already wrote a commentary on this on 22-April which you can read here.
Not only do those debt and budgetary issues put the GBP at risk, the potential for a ratings downgrade on UK sovereign debt adds a tremendous amount of risk. Just like Treasuries and Bunds, Gilts are AAA rated but it's my opinion their rating is now at risk. With UK government expenses running almost 125% higher than revenues, how can their sovereign debt rating not be at risk?
The way the UK is dealing with the staggering expense-to-revenue situation is by printing more money but anybody with half a brain cell in their head knows that's not an answer to the problem. In a perfect and honest world the UK's debt rating would have already been reduced to at least emerging market levels (BBB) even though their budget, expense-to-revenue, and debt-to-GDP ratios rival that of any third world country. At this point Great Britain's monetary and fiscal situation reminds me of another island, Haiti.
According to the latest UK debt figures, the DMO will need to raise an additional £197 billion in public debt in 2010, £154 billion in 2012 and 2013, and £125 billion in 2013 and 2014. So, what does all this mean for us as Forex traders, especially for those that trade the pound? It's very simple, and it won't matter what your chart or your techs say, should Standard and Poors, Moodys, or Fitch drop the triple-A rating on Gilts, the pound sterling will be brutalized, end of story.
I don't care what any chart or tech indicator is showing or what any trader thinks they are seeing on their charts... Fibonacci doesn't stand a chance against S&P, Moodys, and Fitch... those ratings agencies will crush any chart and will crush Fibonacci and all indicators any day of the week. My point -- if you trade the GBP you better keep your eyes and ears open for this potential risk on the pound.
Treasury bull bubble ready to burst:
This week the Treasury is set to auction $101 billion worth of new debt. I'm not even sure why they are referring to these events that involve the Fed buying US debt as a "Treasury auction"... it would be the equivalent of me listing a product on ebay, borrowing money from a bank at 0% interest, bidding up my own product, and then buying it myself with the bank's money and promising the bank I'll repay them when I re-sell my product again sometime in the future.
There's not even any logical sense in this sham the Fed and Treasury are running and it's going to end up backfiring on them because this type of manipulation will burst the bull bubble in Treasuries, it will send the yield on the 10-year far above the 3.00% level and that will put downside pressure on mortgage lending rates making it even harder for potential homeowners to borrow which will even further cap home prices and prevent them from rising. Yeah, that sounds like a great plan to me... and then we have the whole issue for how this sham floods the money-supply which I don't even have time to get in to right now.
In my view, the days of the great Treasury bull run should be officially over. Treasury prices should be starting their march back down while yields should be starting their march back up. Treasury supply should far exceed demand and all of those factors are nothing but bearish for Treasuries. But, with $101 billion worth of fresh US debt flooding the markets this week, I believe equities will be one of the beneficiaries...
Wall St. rally to continue:
What's going to make Wall St. keep pressing on northward? One of the main factors should be exactly I was talking about in the above commentary, the Fed buying Treasuries. There's more to it than just that and a lot of it has to do with overall market sentiment in addition to what we know about human behavior; what I've been teaching about human behavior in relation to price action and price patterns...
Last Friday Ford was the main catalyst that helped power the Dow and S&P 500 over their respective resistance levels by announcing they only took a $1.4 billion loss in Q1. So you want another good reason why I'm not calling an end to the Wall St. rally? Because when we're in an environment where a $1+ billion loss is viewed as a bright spot for the economy and a bullish sign for equities, what in the world is going to take to bring the Dow and S&P 500 tumbling back down below support levels?
Oh, and if you're an American taxpayer, you just lent GM another $2 billion on Friday and that too was viewed positively by Wall St. and even GM's stock went up after that news. I suppose all those threats by the government to take GM into bankruptcy were just that, empty threats... and according to my numbers GM's now received $15 billion worth of taxpayer bailouts yet they still remain insolvent and on a sinking ship but Wall St. is choosing to ignore the situation in Detroit and look the other way.
And while we're on the subject of the automakers, be advised there's a good probability Chrysler will file for bankruptcy as early as this coming Friday. There's still time for Fiat and Chrysler to pull a deal together, but time is running very short and the last we heard from DC is that they will not re-bailout Chrysler as they have been doing with GM.
I was able to forecast the start of Wall St.'s rally nine days before it took hold and I feel confident at this point in calling a continuation of the rally for at least the short-term. As long we stay focused on the underlying fundamentals of the market and properly gauge overall market sentiment, it should be fairly clear when the rally will fizzle out, but for now I see it continuing right into May unless we get a major fundamental set-back or unforeseen geo-political event.
Stress test reveals unconstitutional powers seized by Fed & Treasury:
What is acting?
My definition: acting, in its purest essence, is simply convincing your audience of something that is not true.
To me, this whole stress-test is nothing more than an act... an act put on by the Fed and Treasury to convince their audience they are regulating the banking system and backstopping financial institutions. Their audience are market participants and politicians. The reason for the act is to appease both sides in order to convince them they need the Fed and Treasury, with the ultimate goal of getting more taxpayer money and wielding more control over the banking system, but to do it in a way that eludes the appearance of nationalization.
The US banking system, by way of legislation from congress, makes no provision for the Treasury or Fed to take the roles they have since the banking and financial system first fractured in March of 2008 with Bear Stearns. According to congressional legislation and US federal banking law, the Office of Currency Comptroller and the FDIC are the two regulatory agencies assigned the tasks of supervising and regulating the entire US banking system, not the Fed or Treasury. The Fed and Treasury are clearly on a major power-grab mission.
In just the past 12-months the Fed and Treasury have seized remarkable authorities of power; powers that are not granted to them by congress and are actually unconstitutional. The scariest thing about this stress test is not what the results will reveal but how much power and control the Fed and Treasury have snatched away from Wall St. and Washington DC.
Just some food for thought...
Oh, and while we're at it, time for a failed bank update... last Friday four more US banks failed bringing the total number of bank failures to 29 in 2009. In the year 2008 a total of 25 banks failed, so we're well on pace for a strong year of bank failures. And here's a little bit of trivia... there's only be one industrialized G10 nation that hasn't had a bank failure so far during the global financial turmoil. Can you guess which one? I'll give you the answer at the end of this update...
Gold and crude:
Despite some alarming disinflationary fundamentals out of the US and Europe, spot gold has managed to stay well supported above that key $865 level we talked about earlier this month. Remember, that level has been tested over and over and over again since the start of the year and has proved resilient, and just like anything else, if it can't go down, there's only one other way it can go...
Spot gold and the USD Index remains slightly disjointed but as we saw on Friday, it was like old times again with the euro rising, the dollar falling, and spot gold, crude, and equities all gaining. That is a very fundamental correlation for the markets and was certainly a welcomed sign of some normalcy.
Most of gold's losses a few weeks ago are easily traced back to the fact that we know central banks like the ECB, BOE, plus the IMF were unloading gold on the market to raise cash. In fact, the IMF was quite clear on this and didn't make any attempts to hide what they were doing, and that's why I never took my bullish bias off of gold because there's only so much selling they can do. And just as with equities, once the surge in US M3 money-supply and the monetary base begins pressuring prices, gold should have no problem continuing to the upside. But, this may take some time to play out, so be patient.
The key for this week is to keep an eye on how spot gold responds to the fundamentals and any possible fear or risk aversion plays that happen in the markets. As far as crude is concerned, I think traders will have to take a bullish tone on this commodity as well.
Last week we saw that Crude Inventories showed their biggest builds in almost 20-years yet crude was able to rally below the $50 level and end the week on a stronger bullish tone. Here again we have another scenario where even bad news isn't quite enough to knock this commodity down. Should equities continue their rally and break through some upside resistance, I see spot crude having no trouble doing the same.
Forex:
A few times last week I gave a the 1.2901 price as a mega key level for the EUR/USD and it did hold and we saw the euro end the week higher than where it started. At the start of this week I would expect the same type of market sentiment to prevail as long as the euro and all its correlated markets stay on course. Obviously we've had the G7 and IMF meetings in DC which could cause some shifts in money-flows, but I'm not expecting any major shocks here.
Fundamentally, it's another monumental week as we have very key inflation, growth, consumer, manufacturing, and production data for the euro and dollar. In addition, we have the FOMC on Wednesday and a European banking holiday on Friday. There's so many fundamentals on the books this week I don't have the time and space to cover them all in this outlook, but we'll break them down in the daily updates.
Keep a close eye on the USD Index. Last week it showed some signs it was fracturing and should the trend continue, you know exactly what's going to happen, it's not rocket science and you don't need any techs to make sense of it all and to figure out what the end result will be for pairs like the EUR/USD, USD/CHF, and AUD/USD...
Lastly, I want to give traders a few reminders; back to basics kind of stuff. As you're trading this week I want to encourage you to keep it simple and stay on top of the underlying fundamentals that move markets. It doesn't matter if you're a tech trader or you pray to the Greek god of Ploutos to find your trades, be mindful of the basics of price action and how human behavior determines price patterns:
Fear and greed
Path of least resistance
Over-extension and over-exhaustion
Price action of correlated markets
Central bank rhetoric; geo-politics
Risk sentiment of market participants
That's all for now. We covered a lot of territory today but as you know there's a lot of madness in the markets. Re-read this update a few times if you have to, I don't want any traders getting caught by surprise or depending on techs too much to show them the way... I'll post EUR/USD key levels before Wall St. opens on Monday and we'll do a live audio Q and A session in the chat at 1000 EST / 1500 GMT.
Whether he intended to or not, Bank of America CEO Ken Lewis stole the headlines today with his alarming admission that former Treasury chief Paulson instructed him to hide and withhold the details of BOA's forced deal with Merrill Lynch. According to the NY state attorney general's office, Lewis was instructed by Paulson to hide from shareholders how toxic Merrill's assets were and how worthless Merrill's balance sheet was when BOA bought them for a crazy premium, which wreaked havoc with shareholders and caused untold millions worth of investor losses. In my view Paulson's dirty politics and lies cost the US taxpayer at least $52.5 billion because that's what BOA was given by the Treasury to facilitate this debacle with Merrill and to keep their balance sheet solvent.
I guess the revelation by Lewis caught the markets by surprise this morning but I'm not really sure why, this is the US government and Hank Paulson we're talking about after all, not Jesus and the twelve apostles... when Hank Paulson was running the Treasury his platform and gameplan for guiding the economy through the recession was built on lies and misinformation. Remember Hank's famous line just weeks before the entire global equities system collapsed in September, "The fundamentals of the US economy are sound".
Shareholders should be up in arms over this and hammering BOA's stock, because the way I understand the story, Paulson told Lewis on 12-December to keep his mouth shut or else he's out of a job, and that was seven days after the BOA-Merrill deal went down. That means all parties involved knew it was a sham merger and it was going to cost tens of billions of dollars to sweep under the rug in order to disguise any appearance of the vast systemic risk in the financial system. BOA's shareholders and customers should punish the bank for this, but in a few days the story will likely be forgotten and Paulson will remain unaccountable for his actions.
Euro fundamentals up, dollar fundamentals down... sorta:
With exception of the Eurozone Current Account that printed better than expected, I was pretty much dead wrong on my other forecasts for today's euro and dollar data as we saw all German, French, and Eurozone manufacturing and services data print to the upside while Existing Home Sales came in below market expectations.
Had all of today's euro news been truly good the EUR/USD would have had no problem slicing right through the 1.3100 level early this morning, so why was the euro's upside gains capped for most of the day? Well, despite some great headline numbers, after digging through all the data and revisions we see that Eurozone Industrial Orders actually dropped to their lowest level in recorded history, showing a 34.5% decline year-over-year.
The main reason this type of data would keep a lid on the euro is because of the direct connection between industrial production and the #1 key driver of the Forex market -- interest rates. As great as some of the other headline data appeared to be, the continued weakness in the industrial production sector keeps the door open for more ECB rate cuts, there's a very simple and basic correlation between the two. With the ECB's next rate decision being just two weeks away, it doesn't appear that the participants that actually move the EUR/USD wanted to take much risk buying the euro because the underlying fundamentals of this data point to a higher probability of a rate cut and not a rate hold in May.
So, as great as some of the euro's headline data looked it's not all peaches and cream in the Eurozone and it took a late afternoon comeback of the S&P 500 futures and spot crude to give the EUR/USD the support it needed to test over the 1.3100 level, the data alone wasn't enough to do it and the euro needed the help of its market correlated variables to get going, specifically the surge in the S&P 500 futures after the 1430 EST timeframe which failed to sustain a break as the S&P 500 futures sold-off after the 1500 EST timeframe, but then managed to rally right into the close.
EUR/USD:
As we talked about in yesterday's update, the EUR/USD would see a stronger correlation to equities on Thursday, specifically the S&P 500 futures. In late NY trading the S&P 500 futures were all over the shop, but surged to the key 850 level and were finally able to finish the day on a stronger note and this helped push the euro beyond the 1.3150 level into the Wall St. close. The EUR/USD held a much stronger upside correlation to equities as opposed to a downside correlation... in other words, the pair was more responsive to the gains in the S&P 500 and moved down to a much lighter degree when the S&P 500 was weaker to the downside.
That exact type of correlation is very indicative of when the euro starts the week with a sell-off to the downside and then puts in a bottom for the week. The euro made several attempts to break that 1.2901 key level, failed repeatedly, and with its strong correlation to equities, the only other way it could go was up. If the S&P 500 hadn't ended the day with a 1% gain it's not likely the euro would have ever made it beyond the 1.3150 level on its own accord, and sure enough, as soon as Wall St. closed and all the NY money-flows disappeared the euro slid right back under the 1.3150 level and was trading around 1.3130 at the 1800 EST timeframe this evening.
US jobless claims and layoffs continue rising:
Both Initial and Continuing Claims printed worse than expected on Thursday as the data showed an additional 27K new jobless claims week-over-week while continuing claims spiked by 93K, marking twelve straight weeks of higher highs and record-setting data. Obviously those are some nasty numbers, but in my research and digging through the data, it gets even worse...
The BLS also puts out data they call "mass layoffs". What they consider a mass layoff is when a company reports laying off 50 or more employees. According to the BLS, company mass layoffs increased to 2,933 in March, which is yet another record-breaking number, and accounts for a total of 299K employee layoffs just in the month of March. Manufacturing companies laid-off the most amount of workers and contributed to 156K new jobless claims.
This is the kind of data I collect and analyze for Non-Farm Payrolls and the Unemployment Rate. Although NFP is still two weeks away it's not looking good for those fundamentals and it will be key to keep an eye on how the Initial Claims data continues to evolve as we get closer to the 8-May event. Back on 6-March I said the unemployment rate could rise all the way to 9.8% and for now I'm sticking to that same analysis because all signs are pointing to nothing but further losses in the job sector and an unemployment rate that has much more potential to keep deteriorating in the near-term.
"No" stress test results due tomorrow:
The other day I offered my thoughts on the sham stress-test. I won't take the time to go through all that again, you can read them here if you like, but it's important to note that the markets are expecting to hear some or all of the stress-test results tomorrow, and as we all know, Friday's are typically chaotic in terms of price action and ill-liquidity, so be on guard.
G7, IMF, and key fundamentals on Friday:
The markets will end the trade week with a rather hectic fundamental calendar as we get key data out of Europe and America, plus a G7 and IMF event in DC.
Europe--
For the EUR/USD, the markets will get the latest French Consumer Spending and German IFO data, and based on the most recent data trends, I'm going to forecast that German IFO prints with a EUR+ tone. For the pound sterling, they get Prelim GDP and Retail Sales, and I would be shocked to see anything but further growth contraction in the UK.
US--
For the USD we get Core Durable Goods, which I'm forecasting to print negative because there is scarce consumer activity and what's left of the US consumer is not buying those big ticket items. Consumers that still have jobs and roof over their heads are not spending, they are saving. New Home Sales should also print USD-.
G7 and IMF--
Although the G7 is mostly worthless, don't forget that their communique will be released after the markets are closed on Friday and that means you should expect most of the majors and yen crosses to be in a different place on Sunday when your broker re-opens your platform from where they were when your platform closed on Friday.
I think the IMF event carries much more weighting and potential to cause volatility in the FX market because it's the IMF that is in charge of bailing out eastern Europe and it will be important for us to learn any new details on their plan to support those sovereign nations. Remember, the IMF is connected to Europe and in charge of handling credit, debt, and default issues in that part of the world and the World Bank is connected to America, and they are in charge of the America's. The IMF and the World Bank basically split the globe in half, each taking one side and being responsible for manipulating and bailing out their respective sovereign nations. If you're unfamiliar with how the IMF and World Bank work, do yourself a favor and take some time to get educated.
That's all for now, key levels will be posted in the morning, and as always, use smart risk and money management with your trading.
Wednesday turned out to be another wild day in the Forex and equity markets where the bears got the best of just about everybody. Lets take a look at how it all went down...
Deep issues with UK money supply and credit:
As we talked about in the update from this morning, the markets were hit with abysmal GBP fundamentals which sent the GBP/USD and GBP/JPY plunging. The GBP/JPY was able to reach the support zone I gave at the 141.50 level before turning around, but based on the fundamental data released by the BOE this morning, I see the potential for even further losses with the pound sterling in the near-term.
The BOE's latest M4 data was alarming and hearkens back to the days of the Great Depression era. According to the BOE, M4 showed a 0.00% gain from the prior reading and the year-over-year growth rate fell 17.6%. Plus, M4 credit only showed a 1.2% gain month-over-month.
But wait, the news gets even worse... UK government debt is now £744 billion which is equal to 50% of the UK's entire GDP! This is far worse than the debt-to-GDP issue in America. The UK Treasury will end up borrowing at least £269 billion. In March alone the Treasury borrowed over £19 billion which was the highest in recorded history. Darling also announced the UK government will level an even heftier tax hike on UK workers who earn £100,000 a year, smokers, and car owners. Taxes will be raised by £3.2 billion.
This is like third-world country stuff going on in the UK. With data like this, it's no wonder the markets hammered the pound this morning. Although the GBP/JPY is more of a technical pair and mostly trades in the wasteland of the ill-liquid retail FX market, there are some underlying fundamentals that traders should never ignore and this morning was a good example why.
Geithner sends USD lower:
Just before 0930 EST during the Q and A session after Geithner's speech he was asked point blank if he supported a strong US dollar. In typical Geithner fashion, he completely dodged the question about his feelings on a strong dollar and almost instantly the euro stopped its downward slide, did an about face, and shot right up through the 1.3000 level before bouncing at the 1.3032 key level and backing off.
It's been awhile since Geithner's used any verbal rhetoric to pressure the dollar but he did a beautiful job of it this morning. Not only did the euro recover, but his lack of support for a strong dollar helped add some upside pressure back into the GBP/USD while sending the USD/CHF on a nice downward slide. Keep your eyes and ears open for more of this kind of stuff from Geithner in the future, to me it's pretty clear on where he stands in regards to the USD. Dow and S&P 500 fail at resistance:
As little Timmy was helping the USD Index find its way lower, Wall St. opened their trading for the day with a strong surge in the S&P 500 futures that stopped the JPY and USD gains dead in their tracks as money-flows poured out of risk aversion markets and right back into the euro, pound, Aussie, and Swiss franc.
The gains, however, were short-lived as we got the latest Crude Inventory data which showed much higher than expected builds in supply. In fact, the data showed the biggest glut of supply in 19-years and with that the S&P 500 futures, spot crude, the euro, and the yen crosses did another 180 and the surge was over. I love it when all the correlated markets do exactly what they are supposed to do...
Crude shouldn't take all the blame for the Dow failing yet again for the kabillionth time at the 8,000 level... just after 1230 EST GM announced they would not be able to make a 1-June debt obligation payment of $1 billion and that they have new plans to hyper-accelerate the process of laying off employees and closing down plants. And guess what happened almost as soon as this news broke? Money-flows poured of equities; the Dow turned negative and the S&P 500 futures tanked from the 856.50 level to below 835 as risk aversion flows were sent back into gold, the USD and JPY.
America's fifth largest bank, Morgan Stanley, reported lower than expected earnings after taking a $1 billion loss in the real estate sector. Remember a few weeks ago when all the bigwig Wall St. CEO's went to DC to meet with Obama? And remember the press conference they all did after their meeting? And remember what Morgan CEO John Mack told the markets? Well, in case you don't remember, he said Q1 earnings would be just fine. Wrong.
Morgan Stanley was the catalyst which sent the S&P 500 Financials Index plunging almost 4%. In case you're not familiar with the index, it's comprised of 80 banks and investment firms and was main driver for the S&P 500's failure at the key 850 level.
Mega EUR/USD fundamentals on Thursday:
Tomorrow's euro economic calendar is jam packed with manufacturing, production, and service sector fundamentals in addition to the Belgium Business Climate Index which is a fairly decent leading indicator. I'm not expecting any upside surprises with the Eurozone data. It's possible the Eurozone Current Account shows a slightly higher than expect gain but based on my research the Eurozone recession is only further deepening, the economy continues to contract and growth is non-existent at this point.
Forex to remain correlated to Wall St.:
With tomorrow's key Eurozone data and the highly anticipated latest release of Existing Home Sales, we should expect the majors and yen crosses to remain strongly correlated to the S&P 500 and S&P 500 futures. Call me crazy but I'm slightly optimistic on the housing data.
In my research I see that the MBA has been reporting an uptick in applications, and just this morning Wells Fargo reported better than expected earnings which was due in part to a surge in mortgages. Plus, the Home Price Index printed positive and better than expected.
Last week the MBA reported application volume rose by 5.3% and their refinancing index was up 7.7%. Also, looking at 10-year yields I see another direct correlation between the rise in mortgage lending and the steady climb on the yield of the 10-year Note. These are all better signs for the housing market and especially for sales of existing homes.
If the news is good tomorrow and we don't get any surprises or geo-political events, Wall St. should react positively and likely make another attempt at the upside. I'm still giving the bear market rally time to continue, I don't really see it completely coming to an end until we at least finish out this month as I've mentioned several times.
A strong Wall St. would help the euro and other non-risk aversion pairs along with spot crude tomorrow. If I trade tomorrow I'll be taking my queue from the market correlated variables as they have been working beautifully so far this week. I got a very nice email today from a trader who said he's done quite well this week trading off the key levels as the euro's respected the topside and bottomside levels, so I'll post another set of key levels tomorrow morning.
As always, be smart with your risk and money management and pay attention to those underlying fundamentals... they still move markets no matter how technical the trading gets...
Although there weren't many volatile price swings today, there are a few key events worth noting and the first one we're going to focus on is the testimony and rhetoric by our friend little Timmy Geithner...
No-stress test:
This morning Geithner was in DC testifying before another do-nothing committee and he took full advantage of the situation to put on show that would probably make David Copperfield shake his head... Geithner basically told the politicians and market participants he's not expecting any major failures and the banks will have options and alternatives to best deal with their insolvency. Now, he didn't use the word insolvency, he'd never go there, but what Geithner was saying is, don't expect to see another Bear Stearns or Lehman Brothers situation with the 19 banks undergoing the so-called stress test.
Geithner also told the committee that banking regulators, not the Treasury, are the ones determining who passes and who fails the stress test. Why would he say that when we all know it's not true? Because Wall St. and especially the financial sector has had enough government intervention, so now little Timmy has finally learned his lesson and is doing a great spin job of removing as much appearance of the government's hand as possible.
This comment here is what really gave Wall St. a boost:
"The vast majority of banks have more capital than they need to be considered well capitalized by their regulators"
His comment is both true and untrue... it's Geithner's way of speaking out of both sides of his mouth. What makes it true and untrue? Well, it's true that those insolvent banks will be considered well capitalized because the Fed has already offered unlimited and unbridled access to their balance sheet. With the Fed offering as much cash as needed at 0.00% rates, yes, in a weird and twisted way, you can say all of those banks are well capitalized.
But, here's where his comments are untrue and where the stress test is just another smoke and mirrors scam... the stress test being conducted on the 19 banks is not focused on the single biggest factor that destroyed the global equities market and helped lead the world into a globalized recession -- toxic assets that have the inability to be valued at market.
I'm talking about mortgage-backed securities, credit default swaps, collateralized debt obligations, you name it... the regulators, the Treasury, and the Fed are not scrutinizing the 19 banks based on the large amount of toxic assets sitting on their books, rather they are simply focused on capitalization and that makes this entire stress test thing a joke.
The biggest of the 19 banks are going to get a free pass when it comes to the potential damage those billions worth of toxic assets could cause and when the stress testing is done they will all come out with flying colors, but this ought not be. After all, wasn't it MBS's, CDS's, and CDO's that sent giants like Bear and Lehman to their graves in addition to causing at least a trillion worth of taxpayer money to be distributed to AIG, Citi, BOA, and a dozen European banks?
To me it's a crazy thing to see the markets rally on this type of news because at some point those toxic assets will have to be reconciled and accounted for. I know the Fed and Treasury are hoping and waiting for a bottom in housing before they deal with the toxic assets but that bottom in housing is not here and won't be here in 2009 in my opinion. I just have to laugh at the idiots on Wall St. that don't use their brains and see what's really going on here and that the smoke and mirrors game is unsustainable over the long-term.
The bottomline on this stress test issue is very simple -- the Treasury is treating the symptom, not the cause... God bless America.
Wall St.:
Geithner's reassuring words sent the financials soaring and helped push the S&P 500 right up to key resistance at the 850 level while the Dow fell just a few dozen points shy of the key 8,000 level. Although the S&P 500 managed to hit resistance, the S&P 500 futures (ES_cont) failed around the 848.50 level and has since backed off even further, and that's why I love the equity futures markets because there are a whole lot more smart traders in that market who are much more informed and make sensible trading decisions.
If it weren't for the dog and pony show in DC today, I don't believe Wall St. would have closed where it did. I would imagine Tokyo will follow Wall St.'s lead and we should see some recovery on the Nikkei this evening.
Gold and crude:
Spot crude made a strong recovery off its lows as the S&P 500 and Dow soared to the upside, recovering a good portion of their losses from yesterday. Spot gold on the other hand saw profit-taking in addition to money-flows heading out of gold and into equities. If you're a chart type person, pull up a spot gold (XAU) chart and a S&P 500 futures (ES_cont) chart, put one on top of the other, and I'd be willing to bet when gold topped out and started falling that the S&P 500 futures bottomed out and started moving back up, especially after the 1000 EST timeframe...
That's how those markets are going to behavior for now... when market participants are willing to take on risk, for whatever reason, the money-flows will come out of gold and move into the S&P 500 and crude.
Forex: It was a mostly quiet and subdued day in FX, but we did get a few interesting fundamentals to consider... as we forecasted, German PPI showed yet another negative print and that put some initial downside pressure on the euro, however, just a few hours later we got much better than expected ZEW data which stopped the euro's slide.
GBP--
In yesterday's update I mentioned the inflation/disinflation situation and how I didn't think we'd see any negative disinflationary data out of the UK this morning. Sure enough, all UK inflation data beat market expectations and this was highly supportive of the GBP/USD and the GBP/JPY in today's trading as we saw the pound sterling move back to the 1.4700 level while the GJ move about 350-points bottom to top.
In my opinion, as long as inflation keeps running hot in the UK, it should keep the pound somewhat slightly supported, however, should the UK go the way of the Eurozone and US in terms if disinflation creeping in, the pound will come under renewed pressure.
CAD--
This morning the BOC beat my CAD interest rate forecast and went ahead and dropped rates another 25bps. The BOC's 0.25% rate is the lowest in their 75-year history and they hinted at keeping their rate at historically low levels for the foreseeable future. The BOC even went as far as saying they have "considerable flexibility" in terms of future monetary policy. In other words, it's probably safe to say the BOC is ordering new printing presses and ink even as we speak...
I'm not a UCAD trader but we have a very good UCAD trader here in the community and after a brief discussion this morning we both agree it would probably make a lot of sense to buy the CAD on the dips, which would be a purely fundamental/interest rate play.
EUR/USD--
Once again the euro was able to hold strong above that key 1.2901 level I gave on Monday morning and unless we get a clear break of that key level, the euro can only keep testing to the upside. On Wednesday we get no euro data and out of the US we only get the Home Price Index and Crude Inventories, so expect the EUR/USD to maintain a tighter correlation with the equities and crude.
The euro's stuck in such a tight range right now between two mega key levels, so I really have no bias one way or the other. As far as trading goes, the only thing I did today was short the GBP/JPY at the 145.00 level which was like grabbing free money. But, at some point the market will have to make a decision and move out of this range. Overall, I'm still bearish on the euro and would feel more comfortable shorting the rises, especially if the euro failed around the 1.3050-80 level. Re-acclimating to trading:
One of our members sent an email to ask me exactly how I get myself back into trading-mode after being away from the markets for a week or more. I think that's a great question and I'm happy to explain how I re-acclimate my eyes and mind to the markets.
For the purpose of this commentary I'm going to use the EUR/USD pair for our point of reference, but the same process would take place for other pairs I'm trading like the EUR/JPY, GBP/JPY, or AUD/USD. 1. Review of 30-minute opens--
The very first thing I need to do is make a study of the EUR/USD 30-minute price opens for the entire time I was away from the market. If I'm away for a day or a week, I have to see exactly where the euro was at when I left, where it's at when I get back, and what happened in between that time.
The reason I make a study of all the 30-minute opening prices is so I can see what kind of price patterns, price behavior, opening sequences, and pip differentials played out while I was away. I need to see if there were more sequences of higher opens or lower opens. I need to see if the euro was over-extending itself to the topside or the bottomside, and then I need to see which side of the market the euro has over-extended itself when I'm getting ready to jump back in.
If I don't have a gauge on how the price patterns were playing out while I was away and how the price pattern sequences have developed the prior 24-hours to me getting back into the market, I'd really have no idea which side of the market to be on. The last thing I want to do is take a euro long if the price pattern sequences are telling me the euro's already over-extended itself to the upside, that would be dumb. So, I depend on my 30-minute opens to give me clarity and clarity and picking the right side of the market to trade is a key when you've been away from the action for 24-hours or more.
For those traders who don't have a system for capturing 30-minute price opens and analyzing the price pattern sequences, you can use any MT4 platform to all the 30-minute data you've missed. MT4's history center is a great resource to pull this information and you can drop it right into an Excel spreadsheet and you can sort it that way to see what you've missed.
2. Review of market correlated variables--
After I get through analyzing the euro's price patterns and price behavior, I turn my attention to the following market correlated variables:
S&P 500 futures
Spot gold
Spot crude
Treasuries
That list is in order of importance...
Just as I do with the euro, I review the price action and price pattern behavior of those correlated markets. With the S&P 500 futures currently carrying the strongest market correlation to the EUR/USD, I analyze the EUR/Equities correlation to see if there's been any changes that I need to take note of... are they still moving in tandem, are they disjointed, is one leading the other? Those are the questions I need to get answered in my mind.
I spend less time analyzing the EUR/Gold-Crude-Treasuries correlation, but analysis needs to be completed nonetheless. I need to see if money-flows have been moving into riskier markets or if risk aversion has been the main theme. I need to see if money-flows have been pushing gold and the dollar up in tandem while pushing the euro and crude lower. Basically, I have to get all the correlated markets settled in my mind and gain a good understanding for how they've all been behaving since I've been out of the market.
3. Review of fundamentals--
Almost every trade day at least one or two key pieces of fundamental data is released, so I take some time collecting and analyzing all the data I've missed in order to see how those data trends were playing out during my absence. I don't look at all the fundamentals, just the really important stuff like interest rates, inflation, consumer, manufacturing, and housing. I focus specifically on what I call the "flavor of the week" fundamentals.
Right now, my flavor of the week is inflation data, so when I got back yesterday I analyzed all the inflation data I've missed. Now, if the flavor of the week happened to be housing data or retail sales, I'd focus on all that stuff first and then go from there. Here's a real life example of how this works...
When I left for vacation I was bullish on the AUD/USD and my bias was to buy it on the dips. The Aussie was trading nicely above the 72.50 level and really had no problem getting above the 73.00 level. Guess what happened while I was away? We got negative inflation prints out of Australia in addition to the RBA taking a strong bearish tone on the Aussie economy. So, in a span of just a few days, disinflation reared its ugly head in Oz and the RBA did an about face and are now hinting at further rate cuts. Had I not taken the time to review what I missed, I'd have no clue what was happening with the AUD, the RBA, Aussie inflation, etc.
4. Central bank rhetoric--
The next thing I need to do is get caught up on any rhetoric out of the Fed, Treasury, and ECB. Central bankers use verbal rhetoric all the time to manipulate the markets, so I need to be sure how the Fed and ECB are using their rhetoric to push market participants. A good bit of market sentiment is under the control of the central bankers... Bernanke, Trichet, and Geithner use their rhetoric to move markets, they are masters at it, so I need to see how the masters are manipulating things in order to prevent myself from being on the wrong side of the market manipulation.
If Trichet wants a lower euro, the euro will go lower, very simple. If Trichet and Bernanke both want their respective currencies lower, I will see their rhetoric and correlate that back to the EUR/USD price action patterns and price behavior, which will likely show a lot of disjointed moves.
So, those are the four key areas I focus on as I get my eyes and mind re-acclimated with the markets and get back into trading-mode. It's a lot of work but well worth the effort. I refuse to jump back into the market blindly, that's pretty stupid. But, by following this system I really don't have much trouble getting back into the markets without feeling lost or confused, I can figure out what's happening. After some research and analysis on the factors that actually cause markets to move I gain a lot of clarity and can begin trading again within hours.
That's it for now. Key levels will be posted in the morning. As always, be smart with your risk and money management.
For my first day back of watching the markets in about a week or so it felt like February all over again... fear, panic, and risk aversion were clearly the order of the day in the Forex market along with all other correlated markets as we saw the dollar, yen, gold, and Treasuries make strong gains while crude, the euro, pound sterling, Swiss franc, and Aussie took another beating and round after round of sell-offs. When we have a scenario where gold and the USD Index move up in tandem, you know market participants are pretty spooked about something...
I haven't done much trading the past few hours, I more so spent the day observing, researching, reading, and catching up. I wanted to get a feel for the current market sentiment and allow myself to get re-acclimated with the markets. It was a little shocking to see such a strong JPY but after some basic research it's clear why and it all goes back to what's happening on Wall St. in addition to what I posted this morning about the season of disinflation running through the major globalized economies.
Wall St. woes:
Wall St. got off to a rough start this week as the Dow lost over 3% and the S&P 500 lost over 4%. The Dow is still unable to sustain a break above the 8,000 level while the S&P 500 remains unable to hold any ground above the 850 level. The Dow put in its worst performance since before the bear market rally took hold on 10-March.
Wall St. shrugged off Bank of America's better than expected earnings... is it possible market participants are seeing through the smoke and mirrors? And when I say smoke and mirrors, I'm specifically referring to the fact that bailed-out banks such as BOA can still borrow money from the Fed at 0% and lend it back out at by as much as 35% in addition to the abrupt change in accounting rules which only further delays the obvious losses that will need to be taken at some point in the future. FYI, BOA's stock was down almost 25% today...
Oracle's $7 billion purchase of Sun is being lauded as another great sign of overall economic recovery and while the Oracle/Sun situation is the largest M&A deal of 2009, I'm looking at the deal from more of a negative standpoint. First of all, during this type of economic recession it would be more of a positive sign to see expansion and growth in the tech sector, not contraction. Oracle paid a hefty premium for Sun's stock, and that's all well and good but I can promise layoffs will be forthcoming.
The financial sector led Wall St. on it's hell-in-a-handbasket race to the bottom and based on historical trends with equities, financials can't lead the markets back and it would be up to sectors like tech to do the dirty work. After today's M&A news the tech sector took a negative tone and was weak to the downside all day long helping to lead the markets lower overall. Oracle's stock was down about 2% on Monday and that's not the way it should work exactly.... I think Oracle made a really dumb move buying Sun, but that's just my opinion.
Despite the losses with equities I'm still not ready to call an end to the bear market rally. With the equities market going on a 5-week+ run from bottom to the top, it's only natural to have a day where the Dow and S&P 500 have a violent sell-off. As I've mentioned many times, I see this bear rally being able to sustain right into the month of May as long as we do not get a major shock or surprise geo-political event. Market participants were looking for a reason or several reasons to take profit off the table and they got at least half a dozen good reasons to do so on Monday.
At this point I don't expect to see the Dow fall all the way back to 6,500 or for the S&P 500 to plunge to the 650 level. This may end up being one of those weeks where profits are taken, short's are forced to cover, and the natural order of price action and human behavior works its magic.
Commodities:
On Monday crude took another nasty hit, falling almost 9% while gold made a bit of a comeback after a few repeated failures to break below the $865 level. Gold benefited from today's fear trade and thanks to the shorts having to cover their positions. As far as crude is concerned, I think it's just another victim of the lack of inflation floating through the global economic system.
I can see a very strong correlation between crude's failure above the $50 level and the recent trend in surprisingly low PPI and CPI prints in the US, Europe, and Asia. To me it's very clear and I'm sure there's a chart out there somewhere that would justify my view. As long as the trend with consumer and producer prices remains negative, crude will be stuck and unable to break through the $55 to $60 level in the near-term.
That being said, over the long-term view I have to be somewhat bullish on commodities. The Fed and ECB will not allow the trend of negative inflation data to be the order of the day, it's not in their interest or the market's interest to see CPI and PPI fall much lower because it would only further complicate their job or re-heating and re-inflating the markets. It isn't the over-supply of crude inventories or the lack of manufacturing and production per say that would keep a lid on crude, in my opinion it's the negative CPI and PPI that are crude's worst enemies, along with a pair like the AUD/USD.
Mega fundamentals on Tuesday:
Sticking to my theme of disinflation and negative CPI's and PPI's, on Tuesday the markets will have to contend with more inflation data out of the Eurozone, UK, and Australia. I am forecasting another negative print on German PPI and a very strong probability to see a negative print on Australian CPI. I don't really follow the UK or the pound sterling but I would be shocked to see any negative inflation prints there, however, should the UK's CPI and RPI print much lower than expected I have to believe the GBP/USD and GBP/JPY will see another round of selling.
There's also a CAD interest rate event plus a BOC statement. I'm not sure the BOC can go much lower than 0.50% but we shouldn't rule out the possibility they follow the Fed down the path of quantitative easing or at least hint at it. Keep your eye on that event as it may provide a clear trade opportunity...
Eurozone and EUR/USD:
In addition to the German producer inflation data the markets will get the latest German and Eurozone ZEW sentiment data. I don't have a forecast for this event but based on what I saw in the markets today, it looks like participants will take advantage of any reason they can to send the euro lower.
This morning the Bundesbank did a nice job reminding market participants how bad the recession in Germany is and how much of a hit German growth is taking thanks to the death of their exporting sector. Weak German and Eurozone inflation data along with manufacturing data later this week should confirm the reality of what we're seeing in Europe and will serve to keep downside pressure on the euro, especially if Wall St. equities continue to slide over the next 24-hours.
EUR/USD--
Although I've been away from the market's for awhile I've not removed my overall bearish view on the euro and I still believe it should be shorted on the rises. I've not taken a euro trade in weeks now, I'm mostly sticking to the yen crosses but I will make an attempt to return to the EUR/USD and look for some solid trading opportunities this week.
Should Wall St. go lower on Tuesday, which I believe will be the case, and we get negative Eurozone fundamentals along with further weakness in commodities, it would appear to me there's a perfect storm to send the EUR/USD even lower, possibly down to test the 1.2750 level in the very short-term.
My 1.2901 key level held solid for most of the NY session but I'm not ruling out a test of the 1.2850 level or lower over the next 8-hours or so. On Monday morning Frankfurt and London took the markets lower and I don't see any reason why there can't be a repeat performance as long as some of those factors we talked about earlier come in to play. If you're looking to take a fresh euro short, you may want to allow Tokyo to get up and rolling or even wait until after the 0200 EST timeframe which is when Tokyo will typically take the euro higher and then London will take it lower.
Tomorrow morning at 1000 EST / 1500 GMT I will do a live audio Q and A session in our chat room, also, one of our members sent me an email to ask if I would explain how I get myself re-acclimated with the markets after being away. I think that's a great question and I will use a separate blog post to cover that aspect.
As always, if you're trading this chaos, please use the strictest of risk and money management. In my view, the FX market remains severely ill-liquid which is adding to the extreme price swings. The volume on Wall St. today was also shockingly low, and those issues of low volumes and ill-liquidity can wreak havoc with traders who are over-leveraged and on the wrong side of the markets.
EUR/USD key levels will be posted before Wall St. opens on Tuesday.
