The bear channel in the EURUSD currency pair has lasted all year. It could be close to a breakout/breakdown, writes Al Brooks.
The EURUSD is breaking below the yearlong bear channel on its weekly chart. All prior breakouts reversed up within a couple weeks. But if this week offers a second consecutive big bear bar closing near its low, this selloff will probably continue down for a measured move to around 1.04.
The EURUSD had a buy signal bar two weeks ago. Last week it traded above the previous week’s high, triggering the buy signal. It then reversed down and traded below the previous week’s low. Last week therefore was an outside down bar (See chart).
While bearish, traders must consider the context, the EURUSD is near the bottom of a yearlong bear channel. Every new low reversed up within a couple weeks. Also, every rally reversed back down after a few weeks. Traders expect that any follow-through selling will end within a few weeks.
A year is unusually long for a bear channel in forex. Consequently, traders need to be prepared for a change in the price action.
The Market Cycle
All markets typically go through a repeating cycle of price action. A breakout weakens into a channel. The channel weakens further and transitions into a trading range. Then traders wait for the next breakout up or down.
The EURUSD has been in a bear trend for 18 months as illustrated in its weekly chart. The current channel phase has lasted for more than a year. There is a 75% chance of a break above the bear channel and then a transition into a trading range. Sometimes there is a breakout below the bear channel and then a reversal up, and then a transition into a trading range.
But 25% time, there is a successful breakout below a bear channel. That means two or more consecutive bear bars closing near their lows and an acceleration of the bear trend. Traders then expect a transition into a bear channel, and then a trading range.
What should traders expect?
Traders know that most breakout attempts fail. As a result, they expect a reversal up within a few weeks. But they also know that a year is a long time for a channel. Consequently, there is an increasing chance of a successful breakout above or below the channel with each passing week.
If there are consecutive big bear bars closing on their lows, traders will bet on a successful bear breakout. That means an acceleration down and probably lower prices for at least a couple more months. A measured move down based on the height of the wedge is around 1.04.
More likely, once there is a successful breakout, it will be up. Traders need to see consecutive closes above a major lower high, like the June 25 high of 1.1413. Until that happens, the bear trend is still intact, and traders will continue to sell two- to three-week rallies.
Since the EURUSD is in a bear channel, the bears will continue to take profits below the last low. Also, the bulls will look to buy a reversal up from around the last low, expecting a tradeable bounce for a couple weeks.
But if this is the start of a successful bear breakout, this week will close on its low. This would be caused by bears continuing to sell instead of taking profits. That would represent a change in the price action of the past year.
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