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US Dollar Nears Critical Support - When Might we Buy?

By , Quantitative Strategist
30 September 2013 14:00 GMT

- Forex Volatility prices are near year-to-date lows

- The US Dollar trades at critical support

- We won't buy until we see a turn in FX trader sentiment

The US Dollar has started the week lower, but the fact that the DJ FXCM Dollar Index trades at key moving average support suggests that further downside may be limited. Forex volatility prices likewise continue trading near year-to-date lows, which in itself suggests that few are betting on or hedging against continued Greenback weakness.

How might we trade here?

Forex Volatility Prices Continue to Drop as Traders Bet on Slow Market Moves

forex_strategy_us_dollar_turnaround_body_Picture_1.png, US Dollar Nears Critical Support - When Might we Buy?

Source: OTC FX Options Prices from Bloomberg; DailyFX Calculations

As we wrote last week, extremely low volatility typically favors simple range trading strategies. That is—buying at the lows/support and selling at the highs/resistance.

Our trend-following Momentum2 trading strategy had previously done well selling into US Dollar weakness, but current market conditions suggest they might do less-well until we see a further breakdown/breakout in the USD.

The Momentum2 system buys when our retail forex sentiment data shows that most traders are selling. It tends to do well in times of strong trends and poorly during slower market conditions.

That said, a turn in sentiment could serve as the first sign that this is indeed the start of an important US Dollar reversal. We’ll cautiously continue to favor our Momentum2 trading system until further notice. And indeed, a bigger shift in volatility prices could help confirm a USD turnaround.

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DailyFX Individual Currency Pair Conditions and Trading Strategy Bias

forex_strategy_us_dollar_turnaround_body_Picture_2.png, US Dollar Nears Critical Support - When Might we Buy?forex_strategy_us_dollar_turnaround_body_Picture_3.png, US Dollar Nears Critical Support - When Might we Buy?

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--- Written by David Rodriguez, Quantitative Strategist for DailyFX.com

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Definitions

Volatility Percentile – The higher the number, the more likely we are to see strong movements in price. This number tells us where current implied volatility levels stand in relation to the past 90 days of trading. We have found that implied volatilities tend to remain very high or very low for extended periods of time. As such, it is helpful to know where the current implied volatility level stands in relation to its medium-term range.

Trend – This indicator measures trend intensity by telling us where price stands in relation to its 90 trading-day range. A very low number tells us that price is currently at or near 90-day lows, while a higher number tells us that we are near the highs. A value at or near 50 percent tells us that we are at the middle of the currency pair’s 90-day range.

Range High – 90-day closing high.

Range Low – 90-day closing low.

Last – Current market price.

Bias – Based on the above criteria, we assign the more likely profitable strategy for any given currency pair. A highly volatile currency pair (Volatility Percentile very high) suggests that we should look to use Breakout strategies. More moderate volatility levels and strong Trend values make Momentum trades more attractive, while the lowest Vol Percentile and Trend indicator figures make Range Trading the more attractive strategy.

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ONE OF THE LIMITATIONS OF HYPOTHETICAL PERFORMANCE RESULTS IS THAT THEY ARE GENERALLY PREPARED WITH THE BENEFIT OF HINDSIGHT. IN ADDITION, HYPOTHETICAL TRADING DOES NOT INVOLVE FINANCIAL RISK, AND NO HYPOTHETICAL TRADING RECORD CAN COMPLETELY ACCOUNT FOR THE IMPACT OF FINANCIAL RISK IN ACTUAL TRADING. FOR EXAMPLE, THE ABILITY TO WITHSTAND LOSSES OR TO ADHERE TO A PARTICULAR TRADING PROGRAM IN SPITE OF TRADING LOSSES IS MATERIAL POINTS WHICH CAN ALSO ADVERSELY AFFECT ACTUAL TRADING RESULTS. THERE ARE NUMEROUS OTHER FACTORS RELATED TO THE MARKETS IN GENERAL OR TO THE IMPLEMENTATION.

OF ANY SPECIFIC TRADING PROGRAM WHICH CANNOT BE FULLY ACCOUNTED FOR IN THE PREPARATION OF HYPOTHETICAL PERFORMANCE RESULTS AND ALL OF WHICH CAN ADVERSELY AFFECT ACTUAL TRADING RESULTS. Any opinions, news, research, analyses, prices, or other information contained on this website is provided as general market commentary, and does not constitute investment advice. The FXCM group will not accept liability for any loss or damage, including without limitation to, any loss of profit, which may arise directly or indirectly from use of or reliance contained in the trading signals, or in any accompanying chart analyses.

DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.
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30 September 2013 14:00 GMT