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High Volatility on a Thin Trading Day Demands Caution

High Volatility on a Thin Trading Day Demands Caution

2011-02-21 21:50:00
John Kicklighter, Chief Currency Strategist
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With US offline for a market holiday, it may have seemed that us FX trades were in for a quiet day. In reality, things couldn't have been more active. Instability in the Middle East and North Africa hit escalated to a severe level with news of military bombing of protesters in Libya. This next step in unrest in the region takes us much further down the rabit hole where financial markets - already spooked by commodity volatility - are starting to tremble. To start the week we have seen incredible volatility in specific markets; but we have yet to see a serious move in the FX market. Most likely we are awaiting the confirmation that this isn't just a temporary jolt but rather the devolving of confidence that finally brings risk-sensitive assets back down to earth. We'll find out if that is the case soon enough - probably during the European / US sessions cross ahead.

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For a fundamental outlook this week; scheduled event risk has been relatively light. However, if risk trends are on the verge of collapsing; then we remarkable trading potential ahead. I will look for correlation across various asset classes to get a bearing on sentiment (I would expect to see the S&P 500 finally reverse, carry to tumble, commodities may be a different story). And, if everything is lining up; I will be buying dollars and perhaps yen where good technical setups present themselves. Just recently, I have taken a small short order on EURJPY as it breaks an ascending wedge formation. I would like to add if it bounces and holds below 114 or if it confirms intentions to dive below 113. NZDJPY is another potential with a multi-month wedge; but I'm waiting for 62.50 to give way. The yen is a unique currency after an early Asian session shock followed by a subsequent swing on a outlook downgrade by Moody's; while the kiwi was roiled by an earthquake in Chistchurch. Lots of volatility; but it is hard to say what the consensus will ultimately be.

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My other existing yen positions are the CHFJPY short from 87.75 and CADJPY short from 84.65. They have certainly been influenced by this volatility but they have yet to seriously make progress from the top of their technical patterns. As for my USDCAD long; risk appetite trends are working against oil prices to keep the pair pinned down for now.

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Looking across the FX market going forward, there are many setups that look appealing. USDJPY has dropped below 83 to complete a short-term head-and-shoulders pattern; but I like EURJPY and NZDJPY better. GBPJPY could be a big channel reversal of its own after a very aggressive run up. EURNZD may finally break above 1.80 and extend its move should risk appetite trends start to falter. GBPNZD could move on to the next phase of its own long-term bull wave it can break its multi-year descending trendline. GBPUSD is eyeing its triple top of 1.63 with uncertainty. And there are many, many more setups out there. Whether they are viable trades or not though depends on what happens with risk appetite going forward. Be prepared to jump.

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