Forex Sentiment: Further Euro/US Dollar Losses Likely

02/12/2009 1:36 pm EST

Focus: FOREX

Historical Charts of Speculative Forex Trading Positioning

Euro Forecast Remains Bearish on Extreme Positioning

Sharp declines in the EUR/USD have been met by equally aggressive buying, giving us a contrarian signal that the EUR/USD may continue its decline. The ratio of long to short positions in the EUR/USD stands at 1.44, as nearly 59% of traders are long. Yesterday, the ratio was at 1.30, with 56% of open positions going long. Long positions gained 15.6% overnight, and they are 35.1% stronger since last week. By comparison, short positions are 4.2% higher than yesterday and 10.0% stronger since last week. The SSI is a contrarian indicator and signals more EUR/USD losses. Our sentiment-based forex trading signals are accordingly short the EUR/USD through current price action.

Forex Traders Remain Heavily Long the USD/JPY, Losses Likely

Our contrarian forex trading strategies continue to sell the USD/JPY currency pair as forex trading crowds remain very bullish on the pair. In fact, the ratio of long to short positions stands at 1.49, as 60% of traders are currently long. A 33% overnight jump in long positions signals that sentiment has become increasingly one-sided. Yet short positions are 19.3% higher, moderating our bias. The SSI is a contrarian indicator and signals more USD/JPY losses, but we would ideally see more aggressive USD/JPY buying to forcefully call for subsequent declines.

British Pound Forecast Turns Bearish Following Sentiment Shift

Forex positioning has taken a sharp turn in the GBP/USD pair, and our sentiment-based forex trading strategies recently flipped from long to short the GBP/USD. The SSI ratio is currently at 1.00, as positioning remains neutral. This represents a sharp shift from yesterday, when 58% of open positions were short the GBP/USD. Long positions have jumped 31.5%, giving us a clear contrarian bearish bias on the GBP/USD. Short positions are, by comparison, 6.4% lower than yesterday, yet 60.2% stronger since last week. On balance, this gives reason to believe that the British pound may continue its slide against the US dollar.

Forex Sentiment Flips on the USD/CHF |pagebreak|

Our forex positioning indicator recently flipped its bias on the USD/CHF currency pair, as traders have now turned net long the USD/CHF. Indeed, the ratio of long to short positions in the USDCHF stands at 1.19, as nearly 54% of traders are long. Yesterday, the ratio was at -1.31, as 57% of open positions were short. In detail, long positions are 28.1% higher than yesterday and 29.1% stronger since last week. Short positions are 17.7% lower than yesterday and 7.6% stronger since last week. Open interest is 2.1% stronger than yesterday and is 21.3% below its monthly average. The SSI is a contrarian indicator and signals more USD/CHF losses. As a result, our forex trading signals are currently short the USD/CHF.

Canadian Dollar Forecast Unclear Against US Dollar

The ratio of long to short positions in the USD/CAD stands at -1.04, as nearly 51% of traders are short. Yesterday, the ratio was at 1.27, as 56% of open positions were long. In detail, long positions are 4.7% lower than yesterday and 4.9% weaker since last week. Short positions are 26.1% higher than yesterday and 26.8% stronger since last week. Open interest is 8.9% stronger than yesterday and 23.9% below its monthly average. The SSI is a contrarian indicator and signals more USD/CAD gains.

How Do We Interpret the SSI?

The FXCM SSI is based on proprietary customer flow information and is designed to recognize price trend breaks and reversals in the four most popularly traded currency pairs. The absolute number of the ratio itself represents the amount by which longs exceed shorts, or vice versa. For example, if the EUR/USD ratio is 2.55, long customer orders exceed short orders by a ratio of 2.55 to 1. Conceptually similar to contrarian analyses using the CFTC IMM open position data, or COT report, the SSI provides an alternative approach that is both more timely and accurate in forecasting currency price movement. The SSI is a contrarian indicator that tells you how the market is weighted and where the trend may head. More long positions don't necessary suggest more confidence in the direction of the current trend. In general, when traders start having adverse movements against their position, many tend to increase the size of their position with the purpose to average down their entry price in one last attempt to recover from previous losses. However, the higher the number of short orders in a bull market, the more dangerous is to take additional shorts because many of those traders who just entered the markets are also leaving their protective stop losses just above the current price action.

By David Song of DailyFX.com

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