Get Ready to Short Aussie as Parity Looms: Charts

In my recent discussion on the prospect of the Australian dollar reaching parity with the U.S. dollar, I indicated that I will go short on the Aussie when, and if, I receive a "parity invite".

Well, the invitation has arrived. Am I sticking to my guns, or will I attend as a reluctant guest?

Lets get one confusion out of the way - trading is not about being right. Trading is about being profitable. We take the action we think will be profitable, and if it proves otherwise, we quickly change our position. We may be wedded to our partners, but traders are not wedded to their positions.

In this party, I am a "banquet bug", so-called invited guests who turn up for no other purpose than to enjoy the hospitality and eat as much free food as possible. In this case, the surge in the Australia dollar certainly offers this opportunity.

So what is the evidence that suggests a retreat in the Australia dollar? And conversely, what are the signals that suggest a continuation of the upward trend of up to $0.20 above parity, as some forecasters have predicted?

There are several support features in this momentum run. A successful test of these shows trend continuation and we keep our parity invitation tickets a little longer. Failure of these support features suggests its time to tear up the invitation and trade short.

Historically resistance has been near $0.98, but the recent uptrend developed a small support area near $0.975. The lower edge of this support area is near $0.965. A fall into this support region shows a pause in the upward momentum. A fall below the level suggests a developing trend change.

The value of the lower edge of the short term Guppy Multiple Moving Average is near $0.965 and this provides a second support feature. This value will change and move up through the support consolidation area. A move below the 15 EMA that is also a move below $0.975 is a signal of developing trend weakness. A successful rebound from the value of the 15 EMA is a trend continuation supporting a move beyond parity.

The most powerful leading indicator of trend weakness is the Relative Strength Indicator when it develops a divergence pattern.

RSI divergence appears when the price behavior makes two new distinct peak highs. During the same time the RSI makes two distinct lower highs. The direction of the trend lines diverge, and this shows underlying weakness in the trend. Divergence signals are very reliable, but they are not so good when it comes to timing. The divergence signal may appear days or sometimes several weeks before the trend collapse develops. Additionally the RSI divergence signal does not provide a guide to the size of the retreat. Experienced chart analysts will see the previous RSI divergence on the chart in July which foreshadowed a small retreat from $0.92 to $0.88.

The Australia dollar chart shows an RSI divergence on the RSI indicator (See chart). However the two RSI peaks are not matched with distinct peaks in the Australia Dollar chart. This reduces the power of the divergence signal, but it remains an interesting warning of developing weakness.

My approach is simple. I'll accept the parity party invitation, but will stay close to the door, ready to run quickly for the exit.

Daryl Guppy is a trader and author of Trend Trading, The 36 Strategies of the Chinese for Financial Traders –www.guppytraders.com. He is a regular guest on CNBC's Asia Squawk Box. He is a speaker at trading conferences in China, Asia, Australia and Europe.

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