Currencies | Feb 21 2012
US Dollar Poised For Breakdown Versus Euro, Aussie As Vols Drop
By David Rodriguez, Quantitative Strategist, FXCM
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 PLUS System Trading Signals –We 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.
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.
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Technical limitations
If you are reading this story through a third party distribution channel and you cannot see charts included, we apologise, but technical limitations are to blame.
