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US Dollar Hanging on by a Thread; Yen Eyes Gains

US Dollar Hanging on by a Thread; Yen Eyes Gains

Christopher Vecchio, CFA, Senior Strategist

Talking Points:

- USDOLLAR Index momentum profile turning more bearish.

- AUD/JPY, GBP/JPY eye similar outcomes - worrisome for USD/JPY.

- Read why a Fed rate hike this week is unlikely to help the US Dollar and see how it fits with the December seasonality forecasts.

Several of the JPY-crosses are on the edge of explosive moves, up or down. Such is the nature of markets sitting at significant technical levels: we're due for trends to reaffirm themselves or new patterns to breakout entirely. The ramifications for risk assets are self-evident, given the Japanese Yen's tenuous role as a "safe haven" currency. Yet there will be no better place tomorrow around the FOMC meeting than perhaps AUD/JPY,GBP/JPY, and USD/JPY.

Elsewhere, there are two things to keep an eye on for today and moving forward. For today, as expressed in the above video, energy markets may be in the early stages of a bottoming attempt. Crude Oil (USOIL) may be in the midst of emerging in a bullish falling wedge pattern on the H1 timeframe dating back to December 4, which would call for a return towards $42/brl. In context of event risk this week, only a truly dovish FOMC would help accomplish that. Regardless, the ramifications to the commodity currencies - in particular CAD and NOK - will be significant.

The second thing to keep an eye on around the Fed will be what happens to EUR/USD. At the current spot price, the exchange rate isn't an issue for the ECB; it is below their 2015 technical assumption (NEER), which is $1.1100. However, once the calendar turns to 2016, the NEER level drops to $1.0900, which means that even if EUR/USD didn't move at all over the next two weeks, it would have become problematic for the ECB.

Chart 1: EUR/USD Spot versus EUR/USD NEER: June 11 to December 11, 2015

EUR/USD spot versus ECB EUR/USD NEER

The above chart is a measure of the EUR/USD spot price in a +/-5% band around the NEER at various points in time. We've constructed a confidence interval contingent on the proximity of EUR/USD spot price to the lower -5% band. The logic is, the weaker the EUR/USD spot price is relative to the ECB's NEER (and the closer to the lower -5% band), the happier the ECB will be: exchange rates aren't a headwind to policy.

For the "ECB happiness" index: a 0% reading would imply they are very unhappy with EUR/USD and the chances of further easing are very high; at a 100% reading, the ECB would be very happy with EUR/USD and the chances for further easing would be very low. So, for now, the ECB may be indifferent to the EUR/USD exchange rate (the "ECB happiness" gauge is currently 56%; pre-December ECB meeting, it was 94%), but reflexively, any sustained EUR/USD rallies into and through Q1'16 increase the odds that the ECB will revise its economic projections lower in March 2016 and thus ease policy further.

See the above video for technical considerations in EUR/USD, GBP/USD, USD/JPY, AUD/JPY, GBP/JPY and the USDOLLAR Index.

Read more: The Fed’s Hike this Week is Unlikely to Help the US Dollar

Lastly, as we approach the holidays and thus less liquid markets through the end of the year, it's worth reviewing principles that help protect your capital. We call these principles the "Traits of Successful Traders."

--- Written by Christopher Vecchio, Currency Strategist

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

Follow him on Twitter at @CVecchioFX

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DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.

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