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M$PC Currency Update: Month-End and Quarter-End Flows to Influence Price Action

While the latest rebound in risk sentiment has been welcome and certainly justified on a short-term technical basis, we continue to warn against any sustainable recovery in risk appetite. Our core outlook remains downbeat and we expect that the ongoing global macro instability will persist for some time to come. Ultimately this view should translate into a stronger US Dollar, lower equities and lower commodities prices (with even gold at risk for weakness). Talk of a detailed plan to help resolve some of the major problems within the eurozone has been a key driver in some of the latest price action, but no concrete plan has been officially presented at this point, and even if we do see such a plan materialize, there are still some serious concerns in the region that could prove very difficult to avoid.

Specifically (as noted by our colleague, a leading strategist at one of the major banks), the long end of the rates curve continues to show rising credit risk and does not leave us feeling any warmer about recovery prospects in the region. Even with the safer Germany factored into the equation, longer-term rates are well above the G10 average. This widening of bond spreads is highly concerning and could ultimately undermine any plans from eurozone officials which look to address only the shorter-term issues.

Moving on, with the Jewish New Year set to begin Wednesday night, market participants should be on the lookout for some added volatility in Wednesday trade as month end and quarter end rebalancings kick in. The general view here is that these rebalancings could prove to be USD supportive, with equity markets back under pressure and the need to diversify out of US Dollars being offset by a strong desire to shift portfolio weightings more heavily into the safe haven US Dollar.

In our analysis on Tuesday, we issued some ideal levels to be looking to add to USD longs and it seems as though those entry points proved to be quite profitable to this point. Our sell entry in Eur/Usd just missed being triggered, with the daily high coming in at 1.3669, while Usd/Chf also came shy of triggering on the long side. However, Cable, Aussie and Kiwi shorts all triggered and have all showed some decent follow through to this point. Of the three trades that triggered, Aussie has proven to be the most profitable, which further suggests that the risk negative market environment is still quite relevant. If we were in all of these three positions, we would recommend booking profit on Cable and Kiwi and holding onto the Aussie short from 0.9960 with a stop-loss at cost to eliminate any risk.

Elsewhere, the Yen remains extremely well bid off record highs against the buck but we continue to warn against the accumulation of additional Yen at current levels, and see this market at a serious risk for major weakness going forward, even in the event of additional strain on the global macro economy. Japanese officials have been actively warning of intervention, and the Bank of Japan has more than enough at its disposal to be able to buy a significant amount of US Dollars.

As such, just as we have already seen with the Franc, the Yen will also be at risk for a major sell-off should the current state of affairs continue (ie risk liquidation). We therefore hold firm in our broad based USD bullish outlook and continue to like the idea of looking to fade any additional Yen strength against the major currencies. At this point, we can offer no official entry points for the USD/JPY trade, but will let you know as soon as we see something that looks attractive.

Joel Kruger has over 10 years of experience in the currency markets in addition to his background in law. Blending fundamental and technical analysis, Joel’s reporting considers a variety of economic and financial cross-currents to give trader a comprehensive assessment of forex market activity. Joel covers the European and Asian market sessions for DailyFX.