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Using FX Sentiment & Volume Analysis to Spot USDJPY Trend Resumption

Using FX Sentiment & Volume Analysis to Spot USDJPY Trend Resumption

2015-05-19 19:15:00
Tyler Yell, CMT, Currency Strategist
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Article Summary:FXCM Trading Volume on the USDJPY has been quiet but other technical development could show the long-term uptrend is about to resume after a series of condensed lower highs and higher lows. With SSI dropping, sentiment traders are favoring upside.

Talking Points:

  • USDJPY trading volume has been muted with a spike on a recent up day
  • Watch for a break above 120.85 with outsized volume
  • USDJPY SSI shows a 30% rise in short volume favoring upside

The FX market seemed to all but forget about the USDJPY. After an impressive run from mid-October 2014 to early December of the same year the USDJPY has been in a triangle. Triangles often chew up time but do little in the manner of price progression. This article will show us what to look for on the chart while adding sentiment and volume analysis to see if the trend is ready to resume.

This article will look at what these circumstances mean for the pair moving forward.

Retail Sentiment is acquired using DailyFX Plus’ Speculative Sentiment Index. It is free for real FXCM account holders, but is also free for anyone using a two week trial: DailyFX Plus Trial. Most often, SSI will help you see the beginning of a new trend, which is historically fought by the retail trading crowd.

Retail Volume is available on FXCM’s Trading Station Desktop platform. This free software can be downloaded here and a free demo login can be acquired here. Real Volume is a default indicator that can be added to your charts. Volume is used by Institutional FX traders as well as traders from other markets to understand market participation in a move.

Watch USDJPY Volume to Favors Upside If Resistance Breaks

Using FX Sentiment & Volume Analysis to Spot USDJPY Trend Resumption

(Created using Marketscope 2.0 charts)

Utilizing FXCM’s real volume indicator has been very valuable for USDJPY traders. The value came in showing that little volume was being traded on this pair as the correction played out. Traders can look to volume to see what direction price is moving when volume is at its highest. However, if volume begins to decline like you see on the chart above, the moves against the larger trend tend to be discredited. Discrediting counter trend moves aligns with the favorable trend following approach.

In last week’s article, we discussed looking at volume as a proxy for enthusiasm or social proof of a move. The lack of volume on USD/JPY shows that very few traders were willing to trade against the seemingly inevitable a path higher as favored by the BoJ.

What Next?

When considering the chart of USD/JPY, it is easy to see that the trend is up however, it has paused since early December 2014. You can also see that volume has depleted over the recent months. This combination of paused trend in lower volume begs the question, what is a trader to do? In short, we will look for a major breakouts to the upside that is matched with volume hitting relative record levels. A development where price breaks resistance and volume moves higher would complement the idea that the larger trend is resuming.

Learn Forex: USDJPY Chart Shows Potential for 2007 High of 124.13

Using FX Sentiment & Volume Analysis to Spot USDJPY Trend Resumption

(Created using Marketscope 2.0 charts)

On the bottom portion of the chart, you’ll notice to redlines drawn from peaks of volume. Those redlines will act as resistance similar to price resistance on a chart. The range of those redlines is from 1.8-3.6B. If price breaks resistance of 120.85 on the chart and volume subsequently breaks above the zone 1.8-3.6B then you have a favorable environment for further upside. However, certainty is never in the lexicon of a trader so we must be ensured that a protective stop is in place and that the recent pivot of 118.90 looks appropriate.

USDJPY SSI shows a nearly 30% rise in daily short volume favoring upside

Using FX Sentiment & Volume Analysis to Spot USDJPY Trend Resumption

(Screen capture from DailyFXPlus.com)

The Speculative Sentiment Index or SSI is a contrarian tool where we look to take trades that are opposite of its reading. So during times when SSI is positive, we would look for sell trades and when SSI is negative, we would look for buy trades. Typically, a reading above 1.5 or below -1.5 are seen as statistically significant and increases the need to be on the watch out of breakouts occurring against retail crowd positioning. However, relative positioning is also significant.

Relative positioning refers to the daily and weekly changes in short and long positions. An aggressive adjustment of greater than 20% shows the retail trading crowd is attacking a move. Because this is a contrarian indicator, and emotional extreme as shown by large percentage changes in short or long positions is similarly as effective as the net ratio difference.

Using FX Sentiment & Volume Analysis to Spot USDJPY Trend Resumption

We use our SSI as a contrarian indicator to price action, and the fact that traders are aggressively increasing their short exposure adds to the potential signal that the USDJPY may soon continue higher. You can see in the chart above, due to the strong trend a positive SSI has correlated to sideways moves whereas a negative SSI has been present in strong moves higher. Before you can reach a negative SSI, your first two likely see an aggressive increase in short positioning. The recent 29.4% rise in short positioning will cause us to keep an eye on a price breakout complemented with a volume break higher.

In Conclusion

Every pair has its own sets of tendencies and patterns. As you saw above, USD/JPY hasn’t reacted like most currency pairs because of the overactive Bank of Japan. However, an aggressive increase in short exposure turns our focus towards price resistance and a potential volume breakout to confirm the larger trend is ready to resume.

The sentiment and volume are providing signals showing the turn higher could have room to run however, risk must always be managed in case this does not develop as it has historically. Continue to watch price action, sentiment, and volume to see if the view of a turn higher is validated. Also, feel free to utilize a demo account to practice trading risk-free before trading with real money if you are just starting out.

Happy Trading!

---Written by Tyler Yell, Trading Instructor

To contact Tyler, email tyell@dailyfx.com

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Tyler is available on Twitter @ForexYell

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