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A wider trade deficit and disturbingly weak export numbers from China over the weekend have done a good job of weighing on sentiment into Monday, with currencies coming under some added pressure against the US Dollar. We have been warning for some time of a third phase of the global recession which should originate in China and spread to the commodity correlated economies and other emerging markets. Many of these economies have managed to outperform throughout the crisis thus far, with investors seeing these regions as attractive alternatives to a very troubled US and European economy.
Relative performance versus the USD Monday (as of 11:45GMT)
However, we have always had a hard time digesting the safe haven flows into these traditionally risk correlated markets, and we finally think that things are catching up and we could soon see an aggressive liquidation of investment in these regions as the global recession enters its final phase. As far as the more major currencies are concerned, we are projecting underperformance in currencies like the Australian Dollar, New Zealand Dollar and Canadian Dollar going forward, and even see these currencies suffering against a recently beaten down Euro currency. Australia should be the most exposed given the wider yield differential and with recent economic data out of the country also disappointing (see latest employment and GDP results), we are getting added confirmation for a bearish outlook on the commodity currency.
Elsewhere, another major shift in the FX markets is underway with the Yen, as the currency continues to show evidence of a major structural shift which points to a significant top and material weakness going forward. The most compelling evidence for this structural shift comes from the weekly USD/JPY chart which shows the market closing back above the Ichimoku cloud for the first time since the summer of 2007. While short-term studies are looking a little stretched and could warn of some pullbacks, we expect any pullbacks to now be very well supported above 78.00 in favor of fresh upside into the 85.00-90.00 area over the coming months. As a reminder, the nice thing about shorting the Yen is that is doesn’t cost anything to hold the position on a daily basis.
Looking ahead, the key event risk for the week will come in the form of the FOMC rate decision. The central bank meeting will take on added significance with US economic data showing more consistent signs of recovery and increasing speculation that the Fed may need to reconsider their ultra accommodative stance. While we do not expect the Fed to reverse policy just yet, Mr. Bernanke and company could look to firm things up just a bit by removing the keeping rates ultra low through 2014 language. Should the Fed move in this direction, then we could see added pressure on US equities as market participants become less comfortable with the idea of higher interest rates. We would also see a stronger US Dollar on a narrowing of yield differentials.
EUR/USD: Friday’s aggressive pullback strengthens the prospects for the end of a corrective move in 2012 which has in fact stalled just ahead of 1.3500. From here, the risks are tilted to the downside and a break below next key support by 1.2975 will be required to officially put the pressure on the downside and open an acceleration of declines back towards the 2012 lows at 1.2620. At this point, only a break back above 1.3300 would alleviate downside pressures and delay outlook.
USD/JPY:The market is doing a good job of showing the potential for the formation of a major cyclical bottom after closing above the weekly Ichimoku cloud for the fist time since July 2007. This further solidifies basing prospects and we could be in the process of seeing a major bullish structural shift that exposes a move towards 85.00-90.00 over the coming months. At this point, only back under 77.00 would delay outlook and give reason for concern. However, in the interim, it is worth noting that gains beyond 82.00 over the coming sessions could prove hard to come by with shorter-term technical studies needing to unwind from their most overbought levels in over 10 years before a bullish continuation. As such, we would caution buying breaks above 82.00 for the time being and instead recommend looking for opportunities to buy on dips.
GBP/USD: The market has been costly confined to trade between the 100 and 200-Day SMAs since early February and the latest break back below the 100-Day SMA therefore suggests that we could be on the verge of a bearish break. The key level to watch comes in by 1.5645, and a break and close below this level will reaffirm bearish outlook and open the door for a more significant bearish decline towards the 1.5000-1.5300 area further down. Inability to establish below 1.5645 however, will suggest that more choppy directionless trade is in the cards.
USD/CHF: Setbacks have stalled for now just ahead of 0.8900 and the market could finally be looking to carve the next medium-term higher low ahead of a bullish resumption and eventual break back above 0.9660. Look for additional gains over the coming sessions back towards 0.9300, with a break above to confirm and accelerate. Ultimately, only a drop below 0.8930 negates and gives reason for pause.
--- Written by Joel Kruger, Technical Currency Strategist
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