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Long EUR/AUD on Push Above Moving Average Confluence Zone

Long EUR/AUD on Push Above Moving Average Confluence Zone

2011-10-20 17:07:00
Christopher Vecchio, CFA, Sr. Currency Strategist
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The Australian Dollar and the Euro have been among the most volatile currencies the past few weeks when traded against the U.S. Dollar. Since October 4, when both of these currencies established multi-month lows against the U.S. Dollar, they have moved essentially in a straight line higher. This would suggest that risk-appetite trends are strengthening: there exists demand for a high yielding currency (the Aussie) and demand for a fundamentally-flawed currency (the Euro). However, with both of these currencies sitting at the top of their respective ranges against the U.S. Dollar, the currency markets are at a seemingly pivotal point: will risk-appetite continue, sending these higher yielding and risk-correlated currencies to new highs, or will they fall back in their ranges, towards their respective October lows on a shift back to risk-aversion? The clues are hidden in the EUR/AUD cross, which while sitting at critical support, has shown signs of turning in the middle of its long-term range, an indication that the recent bout of risk-appetite is close to ending and a sharp rally to ‘safer’ assets will occur.

Levels to Watch:

- October High: 1.4086 (0.0 Fibo)

- Range Top: 1.4030

- Range Bottom: 1.3050

- September Low: 1.2988 (100.0 Fibo)

EUR/AUD Daily Chart: June 2011 to Present

Long_EURAUD_on_Push_Above_Moving_Average_Confluence_Zone__body_Picture_1.png, Long EUR/AUD on Push Above Moving Average Confluence Zone

Charts created using Strategy Trader– Prepared by Christopher Vecchio

The chart above details the two ascending channels that have materialized over the past few months on a daily timeframe. First, the long-term ascending channel has carved out a 1000-pip channel, with the high above 1.4000 and the low just below 1.3000. The most recent test of the Range Top occurred on October 4, coinciding with the most recent low in U.S. equity markets; the most recent test of the Range Bottom occurred on September 12, just days before the mid-September slide in equity markets.

The more near-term channel, while only a month shorter and having been pierced with multiple closes above and below its respective Range Top and Range Bottom, serves as a reference point for previous critical resistance and support areas. The most recent test of the shorter-term ascending channel’s Range Top occurred on October 4, coinciding with the most recent low in U.S. equity markets; the most recent test of the Range Bottom occurred yesterday.

Considering the shorter-term ascending channel’s Range Bottom has served as a pivot area, the EUR/AUD should either bounce higher back towards the 1.4000 level or follow through with a major break below back towards the 1.3000 area. My fundamental bias is towards risk-aversion; therefore on a carry trade basis, Euro strength is favored against the Aussie due to interest rate differentials.

EUR/AUD 6-hour Chart: September 1 to Present

Long_EURAUD_on_Push_Above_Moving_Average_Confluence_Zone__body_Picture_19.png, Long EUR/AUD on Push Above Moving Average Confluence Zone

Charts created using Strategy Trader– Prepared by Christopher Vecchio

The chart above (6-hour timeframe) shows the Fibonacci retracement levels for the EUR/AUD, and what is expected out of the EUR/AUD in the coming weeks, with our bias in favor of Euro strength and Australian Dollar weakness. The pair currently trades between its 50.0 and 61.8 Fibonacci retracement levels, from 1.3537 to 1.3407, respectively, from the September 12 low at 1.2988 to the October 4 high at 1.4086.

Suggested Strategy

  • Entry: Long at 1.3640 [above Moving Average Confluence Zone]
  • Stop: 1.3407 [61.8 Fibo] (233-pips)
  • Target 1 (Reward/Risk Ratio): 1.3775 [Last Week’s High] (135/233, 0.58)
  • Target 2: 1.3827 [23.6 Fibo] (187/233, 0.80)
  • Target 3: 1.4030 [Range Top] (390/233, 1.67)
  • Timeframe: 2-weeks

Trading Tip Despite the recent correction lower by the EUR/AUD, it remains entrenched in the two aforementioned ascending channels that have formed over the past three- to four-months, and the main technical indicators this piece uses points to gains on the horizon. First, in regards to the recent correction, this was expected given the parameters of the ranges established. On October 4, the high for the EUR/AUD, the 6-hour RSI was overbought, at 71. Even after the correction, the RSI yields two key results. First, the daily RSI remains supported by the 40 level, currently at 43; in a bull market, the RSI often fails to break below the 40 to 50 area. Second, there is RSI divergence on the 6-hour chart. What this means is that the RSI moves differently than the currency on the price chart: in this case, the RSI has bottomed above oversold conditions, while the EUR/AUD has made a lower low. This suggests that the correction may be over. Likewise, the daily MACD Histogram suggests the EUR/AUD may be turning as well, with the differential up to -45 from -49 on Tuesday. Finally, the daily Slow Stochastic oscillator issued a buy signal yesterday, with the %K greater than the %D, at 11 and 9, respectively. Considering the indicators are turning in tandem again – the last time was at the top on October 4 – it appears the next leg higher for the EUR/AUD is beginning.

Event Risk for the Euro-zone and Australia

The most important event on the docket – it mind as well be the only event on the docket considering the long-term timeframe of this trade – is the Euro-zone summit this weekend. Recent developments today suggest nothing will come out of the meeting, and this is already being priced in, with the U.S. Dollar among the best performing currencies on Thursday. Nevertheless, with key inflation and manufacturing data on the docket, there are some prints to keep a look out for should the EUR/AUD gather momentum to the upside.

Euro-zone – The Euro-zone summit this weekend is the most important event in the financial world the next few days, even though it is being dismissed as useless at this point considering (as it’s been reported by multiple reputable media outlets) that no agreement over the European Financial Stability will be reached. Regardless, there is still some hope that an agreement will be reached in the future; I find this becoming an increasingly unlikely scenario given Germany’s unwillingness. By Monday, the world will have a better idea of what to reasonably expect from Europe – a solution or another ‘IOU.’ If there’s disappointment, the EUR/AUD could move towards our profit target levels sooner-than-anticipated.

Australia –The Euro-zone debt crisis and concerns over slowed global growth with guide the Australian Dollar in the coming days, as the Aussie is the highest yielding currency among the majors. There are some data coming out in the next few days that could be supportive of the Aussie, however, which would weigh on the EUR/AUD in the coming days. Of the events next week directly related to the underlying fundamentals of the Australian economy, the consumer price index is the most important release, as it is only released quarterly (most other advanced economies release CPI data on a monthly basis). While there is no consensus data available for either the quarterly or the yearly figure, recent commentary out of the Reserve Bank of Australia suggests that, by their estimates, the rate of inflation is slowing. Accordingly, a softer inflation figure could weigh on interest rate expectations, thereby diminishing the return on and the attraction to the Aussie.

Data for October 16 to October 28

Data for October 16 to October 28

Date

Euro-zone Economic Data

Date

Australia Economic Data

Oct 23

EURO-ZONE SUMMIT

Oct 24

Producer Price Index (YoY) (3Q)

Oct 24

German PMI Manufacturing (OCT A)

Oct 26

Consumer Price Index (QoQ) (3Q)

Oct 24

Euro-zone PMI Manufacturing (OCT A)

Oct 26

Consumer Price Index (YoY) (3Q)

--- Written by Christopher Vecchio, Currency Analyst

To contact Christopher Vecchio, e-mail cvecchio@dailyfx.com.

Follow me on Twitter at @CVecchioFX

To be added to Christopher’s e-mail distribution list, send an e-mail with subject line "Distribution List" to cvecchio@dailyfx.com.

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