Charts Signal Bearish Euro Outlook

08/31/2011 7:00 am EST

Focus: FOREX

A range of fundamental pressures has caused an important technical failure on the EUR/USD chart, and with lower highs being made, the case for new lower lows ahead has been strengthened.

We saw quite a turnaround in the past European trading session with the markets reversing course and coming under pressure as more discouraging news surfaced out of the Eurozone.

The fundamental drivers came from a combination of factors, including a very weak Italian auction, expressed concern from the Bank of Italy on the growth outlook, S&P warnings of a double-dip recession, and some much-weaker-than-expected Eurozone confidence data.

In our Opening Comment from yesterday, we highlighted our skepticism with the recent recovery in risk-correlated assets and warned that the moves were more a function of some corrective price action and thin end-of-summer trade, rather than legitimate moves with real traction. The following is an excerpt from that Opening Comment:

“On the strategy front, it is worth keeping an eye on the Euro to see if the market can extend gains beyond yesterday’s 1.4550 highs. While the market has recently broken out of a multi-week triangle and is showing bullish tendencies, we are still not yet convinced of the strength and inability to establish above 1.4550 followed by a break back below 1.4500 will help to confirm our suspicions and open the door for a resumption of broader weakness.”

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We have now seen a legitimate topside failure in the euro/US dollar (EUR/USD) currency pair above 1.4500 with the market taking out the previous daily low to set up the strong potential for a bearish reversal day.

As per our technical analysis, we also expressed skepticism with the recent bullish break of a sequence of interday lower tops since May and warned of the possibility for a false break and sharp bearish reversal.

chart
Click to Enlarge

Upon further analysis, we would also argue that the bearish structure of lower tops in EUR/USD is still very much intact. A confirmed lower top requires a break to a fresh lower low, and if we look at the chart, the most recent lower low comes in on July 12 when the market traded down to 1.3840.

This means that the most recent lower top was in fact all the way back in June by 1.4700, and the current price action is merely some more consolidation ahead of an eventual break lower back below 1.3840.

Ultimately, only a break back above 1.4700 would negate the structure and give reason for concern.

By Joel Kruger, technical strategist, DailyFX.com

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