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US Dollar Poised for Breakdown versus Euro, Aussie as Vols Drop

US Dollar Poised for Breakdown versus Euro, Aussie as Vols Drop

2012-02-20 17:00:00
David Rodriguez, Head of Product
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The US Dollar trades within an increasingly tight range against the Euro and other currencies, but clear market complacency warns that breakouts may be imminent as the EURUSD and S&P 500 trade near significant highs.

DailyFX Individual Currency Pair Conditions and Trading Strategy Bias

forex_strategy_us_dollar_breakdown_euro_australia_body_Picture_1.png, US Dollar Poised for Breakdown versus Euro, Aussie as Vols Drop

DailyFX PLUS System Trading SignalsWe continue to highlight exceedingly low volatility expectations as clear risks to the safe-haven US currency. In the past two weekly outlooks we pointed out the fact that FX Options implied volatilities trade near their lowest levels since the beginnings of the global financial crisis in 2008. All the while, extremely bearish EURUSD sentiment has left large speculators very heavily net-short. As we highlight in our weekly EURUSD forecast, an extremely bearish market that refuses to plunge is quite bullish.

Monday has seen the USD trade lower once again, and this author believes this could be the start of major breaks in key pairs. The next moves may prove pivotal as there’s substantial risk of a short-term USD breakdown/EURUSD breakdown as we trade near key levels.

We favor USD weakness against the Australian Dollar, Canadian Dollar, and New Zealand Dollar especially. Our bias currently points to an important USD breakdown across the board/EURUSD breakout and we’re positioned accordingly.

Market Conditions:

Volatility expectations trade near their lowest levels since the onset of the financial crisis in 2008. Such extremely low levels favor "risk" currencies and paint a bearish picture for the safe-haven US Dollar.

forex_strategy_us_dollar_breakdown_euro_australia_body_Picture_2.png, US Dollar Poised for Breakdown versus Euro, Aussie as Vols Drop

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

To contact David, e-mail drodriguez@dailyfx.com

To be added to David’s e-mail distribution list for this and other reports, e-mail subject line “Distribution List” to drodriguez@dailyfx.com

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 monthly 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 monthly 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.

HYPOTHETICAL PERFORMANCE RESULTS HAVE MANY INHERENT LIMITATIONS, SOME OF WHICH ARE DESCRIBED BELOW. NO REPRESENTATION IS BEING MADE THAT ANY ACCOUNT WILL OR IS LIKELY TO ACHIEVE PROFITS OR LOSSES SIMILAR TO THOSE SHOWN. IN FACT, THERE ARE FREQUENTLY SHARP DIFFERENCES BETWEEN HYPOTHETICAL PERFORMANCE RESULTS AND THE ACTUAL RESULTS SUBSEQUENTLY ACHIEVED BY ANY PARTICULAR TRADING PROGRAM.

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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