The Forex Trading Week Ahead

09/12/2011 10:20 am EST

Focus: FOREX

Brian Dolan

Chief Currency Strategist, FOREX.com

Ongoing financial instability in the Eurozone and rumors about Greek default are weighing on the markets, making it prudent to sell risk assets on any strength in the week ahead.

In last week’s article, I cautioned that the euro (EUR) might be in for a very bad week, which turns out to have been an understatement. The week began with fresh selling from the mid-1.41 area as concerns mounted that Greece would not receive the next installment of the European Union (EU) bailout package. The selling was briefly interrupted by the Swiss National Bank (SNB) surprise announcement that it was putting a floor under EUR/CHF at 1.2000, which provoked a brief spike into my preferred sell zone between 1.4250/1.4350.

EUR/USD then stabilized for a period above the key 1.3950/1.4000 support zone, which ultimately gave way on a more dovish European Central Bank (ECB) statement that effectively signaled further tightening is off the table.

The selling reached a crescendo on Friday amid market rumors that Greece would announce some sort of a default over the weekend and on word that ECB uber-hawk Jürgen Stark was resigning, likely due to his disagreement with the ECB’s program of government debt purchases.

In the short term, speculation about an imminent Greek default seems overdone, with a Greek Finance Ministry statement on Friday denying any such plans and leading to a small bounce in the single currency. Also, with the anniversary this weekend of the 9/11 terror attacks, investors seemed intent on exiting risk assets in case of another terror event over the weekend.

With 9/11 having passed without incident, there is some prospect for a short-term rebound in risk sentiment early this week, which I would again look to use as a selling opportunity.

In the medium term, the prospect of a Greek default remains very real, unless Germany and others relent on providing additional aid, keeping financial instability front and center as a reason to sell EUR. More importantly, though, the acknowledgement by the ECB that downside risks to growth have increased suggest that ECB rate-cut speculation will only intensify in the weeks ahead. I would note that the spread between two-year US-German government bonds now points to a EUR/USD rate in the 1.2900/3000 area.

Technically, daily Ichimoku charts delivered a strong sell signal in EUR/USD, with the anticipated bearish crossover of the Tenkan line below the Kijun line with price below the cloud. However, price is still holding above the top of the weekly Ichimoku cloud at 1.3645, but this level rises to 1.3707 for next week.

At the close of the week, price is also holding above the 61.8% retracement (1.3659) of the 1.2867-1.4940 advance from January to May. Daily closes below these levels will strongly suggest to me that further losses are imminent and I would look for declines to the 1.3350/1.3360 area (76.4% retracement) as the next target.

While that support holds, however, I’ll look to re-establish short EUR/USD positions in the 1.3830/1.3960 area, which is marked by the daily lows in June 2011 (1.3830/1.3840) and broken trend line support dating back to June 2010 (1.3955/60).

NEXT: Risk Sentiment Continues on the Brink

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Risk Sentiment Continues on the Brink

Eurozone financial instability continues to dominate headlines and keep investors wary, but the real story is the stalling economic recovery in the major developed economies. To be sure, slower growth exacerbates the debt burdens of the struggling Eurozone periphery, adding to the angst over the European financial sector.

But anemic growth prospects and the absence of any meaningful fiscal stimulus on the horizon seems the most likely reasons for risk assets to decline further in the weeks ahead. US President Obama’s much-awaited jobs/stimulus speech was relatively well received by economists, but markets appear to be less than optimistic that the plan can actually be adopted.

It’s still early after the plan’s unveiling, and it may simply be end-of-week/weekend jitters that’s seen shares slump into the weekly close, so we’ll need to see more of the Republican response in coming days before we can really gauge the reaction. Beyond the prospects for passage, however, is the reality that any US stimulus will take time to implement and actually register an impact.

In the meantime, stocks and commodity markets look likely to remain under pressure in the weeks ahead. I have been monitoring a potential bear flag consolidation in the S&P 500 (with a similar pattern evident in the MSCI World Index) for several weeks now, and this past week just managed to hold above the 1145/50 flag base. A daily close below will likely augur a new phase of declines, potentially taking the index down below 1000.

The CRB broad commodity index is also in a likely bear flag consolidation and may have broken below at the end of the week. These developments and the strength of the US dollar (USD) suggest that risk aversion remains strong, which reinforces my view to continue to sell risk assets on strength. This week is relatively light on major data, so market momentum and sentiment are likely to play a larger role than economic news.

By Brian Dolan, chief currency strategist, FOREX.com

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