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Correlations and Conviction Diverge, Leveraging the Threat of Volatility

Correlations and Conviction Diverge, Leveraging the Threat of Volatility

2011-02-08 21:49:00
John Kicklighter, Chief Currency Strategist
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We have very unusual trading conditions on our hands. After doing a broad scan of the markets, I see that the currency market was struggling to develop a clear underlying drive, there were individual moves (such as from the franc and loonie) that went against the grain, there was a wide intraday reversal in the majors, equities surged higher though volume dropped to its lowest levels this year, gold rallied and US oil posted a remarkable recover from what was initially a steep decline for the day. This is a mixed picture for both risk appetite trends and for general pace. Such an abnormal backdrop typically encourages volatility, short-lived trends and contradictions to standard fundamentals. Another aspect of such conditions is that the divergence doesn't last for very long. Therefore, I am once again scanning for short-term setups that are skew more to the technicals rather than fundamentals.

...

For active trades, the USDCHF congestion setup I was looking at yesterday never fulfilled my entry requirements (I needed my entry level to be hit before leaving for the night); and it prevented me from diving into what eventually turned into a breakout. This development itself could be tradable; but it is better to play it by ear (in other words see how the market is behaving when it pulls back to its break point (around 0.96). New to the mix are two short-term setups that I have recently taken on. Both look to fade prevailing trends (which is riskier) in decelerating trends. EURJPY is looking at a broader descending trend channel that has been pushed into resistance by a rising wedge pattern. The fundamental slant is that the pair is generally trending lower while risk appetite is supposedly rising; so what happens should sentiment correct? An accelerated drop. An entry from 112.10 and 50 point initial stop make it a short-term setup to take advantage of moderated volatility. The other layout is a AUDCAD short. The trend I'm fading here is much more prominent; but risk-based volatility is significantly tamed and we are looking at Australian labor data as upcoming event risk. Aside from these two, I'm still with the long-term USDJPY setup awaiting underlying fundamentals to play out and tentatively looking to perhaps play a shorter term wedge break.

...

The pending list is pretty busy. An immediately attractive setup is the reversal potential on GBPAUD. A hold at a long-term descending trendline has helped shape what looks like a short-term head-and-shoulders pattern with a line in the sand around 1.58. We'll see how this performs before and after the BoE decision. Speaking of the pound, GBPUSD is looking at its own reversal potential around 1.6275 - though this pair is far choppier. GBPCHF broke through a higher time frame descending trendline and Fib at 1.5425 - which may be a good setup on a pullback and confirmation. USDCAD made a nice swing within its 1.0025 / 0.9850 range, so we'll keep an eye on opportunities there. AUDJPY has tentatively stalled at its 83.65 swing high. AUDUSD has lost momentum and still looks like it could complete a lower time frame reversal pattern. And even CADJPY and EURNZD offer potential, though their setups are a little further down the road.

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