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EUR/USD: Trading the U. of Michigan Confidence Survey

EUR/USD: Trading the U. of Michigan Confidence Survey

2010-07-15 20:10:00
David Song, Currency Strategist
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Trading the News: U. of Michigan Confidence

Why Is This Event Important:


However, as market sentiment continues to dictate price action in the currency market, a rise in risk aversion could spark a bullish reaction in the greenback as it benefits from safe-haven flows.

What’s Expected:
Time of release:        07/16/2010 13:55 GMT, 9:55 EST
Primary Pair Impact :    EURUSD
Expected:         74.0
Previous:         76.0

Will This Be Market Moving (Scenarios):


The U. of Michigan consumer sentiment index is forecasted to fall back to 74.0 in July from a two-year high of 76.0 in the previous month, and the data is likely to weigh on the outlook for future growth as private sector spending remains on the leading drivers of economic activity. The Fed said the “economic outlook had softened somewhat,” with the risks for growth and inflation “shifted to the downside” in its policy meeting minutes from June, and reiterated that the benchmark interest rate will stay close to zero for an “extended period” as the central bank it will take “some time for the economy to converge fully to its longer-run path as characterized by sustainable rates of output growth, unemployment, and inflation.”

The Upside


As the expansion in monetary and fiscal policy continues to feed through the real economy, the stimulus measures could foster a rise in household sentiment, which would instill an improved outlook for future growth. As conditions pick up, the Fed may see scope to normalize monetary policy further over the coming months and increase its willingness to withdraw monetary support going forward as the economy emerges from the worst recession since the Great Depresion.

The Downside


However, the drop in employment paired with the slowing pace of income growth could spur a bigger-than-expected drop in consumer sentiment, and households may look to scale back on spending and increase their temperament to save as they face tightening credit conditions paired with the ongoing weakness in the labor market. As a result, the Fed may see scope to maintain a loose policy stance over the medium-term and keep borrowing costs at the record-low throughout the remainder of 2010 in an effort to balance the downside risks for growth and inflation.

How To Trade This Event Risk


Expectations for a drop in U.S. consumer sentiment is likely to spark a bearish reaction in the greenback as the economic deteriorates but nevertheless, an enhanced confidence reading could set the stage for a long dollar trade as growth prospects improve. Therefore, if the index holds steady at 76.0 or unexpectedly increase from the previous month, we will need to see a red, five-minute candle following the release to establish a sell entry on two-lots of EUR/USD. Once these conditions are fulfilled, we will set the initial stop at the nearby swing high or a reasonable distance after taking market volatility into account, and this risk will generate our first target. The second objective will be based on discretion, and we will move the stop on the second lot to cost once the first trade reaches its mark in order to preserve our profits.

In contrast, the cautious tone held by the central bank paired with fears of a protracted recovery is likely to stoke a drop in household sentiment, and a dismal reading would certainly drag on the economic outlook as the prospects for future growth deteriorate. As a result, if the survey falls back to 74.0 or lower from the previous month, we will favor a bearish forecast for the greenback, and will implement the same strategy for a long euro-dollar trade as the short position laid out above, just in reverse.

TTN 10-07-15_1

Impact U. of Michigan Confidence has had on USD during the previous month

TTN 10-07-15_2

June 2010 U. of Michigan Confidence Survey

Consumer sentiment in the world’s largest economy improved for the second month in June, with the U. of Michigan survey increasing to 75.5 from 73.6 in May to mark the highest reading since January 2008, and the data reinforces an improved outlook for future growth as private spending remains one of the leading drivers of growth. However, as households continue to face tightening credit conditions paired with the deterioration in the labor market, individuals may keep a lid on spending and the Federal Reserve may look to support the economy throughout the second-half of the year as it aims to encourage a sustainable recovery. As a result, Fed Chairman Ben Bernanke may look to maintain his pledge to keep borrowing costs close to zero for an “extended period” of time and may hold a dovish outlook for future policy throughout the coming months as the global financial system remains weak. TTN 10-07-15_3

What To Look For Before The Release

Traders with access to market depth information via the FXCM Active Trader Platform may use it to gauge the potency of the economic data release as well as to shed some light on the market’s directional bias. Increasing volume ahead of the announcement will telegraph likely follow-through behind whatever move is to materialize, while an imbalance in available liquidity on the Bid versus the Offer side of the market will tell us the direction major institutions are likely favoring ahead of the announcement:

Bullish Scenario:

If we see substantially deeper available liquidity on the Bid side of the market, this tells us that major price providers in the market are looking to buy the EUR against the US Dollar. Considering that close to 60% of all FX market volume is cleared through just six top banks, we see it prudent to be on the same side of the trade as major institutions and will favor a bullish bias on EURUSD ahead of the data release.
Bearish Scenario:

If we see substantially deeper available liquidity on the Offer side of the market, this tells us that major price providers in the market are looking to sell the EUR against the US Dollar. Considering that close to 60% of all FX market volume is cleared through just six top banks, we see it prudent to be on the same side of the trade as major institutions and will favor a bearish bias on EURUSD ahead of the data release.
00001_EUR 00002_EUR

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To discuss this report contact David Song, Currency Analyst: instructor@dailyfx.com

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