Currency Secrets

At present the GBPUSD is forming one of my favoured formations… a bearish flag.

For those unfamiliar with bearish flags these are formations whereby the currency has had a decisive directional move followed by a nice tight consolidation period after. As a general rule whatever direction was made PRIOR to the consolidation, is what will occur after the consolidation. So in the case of the GBPUSD the direction prior to the consolidation was DOWN, therefore, it would be highly probable that the break out of this consolidation will be the downside.

A current chart of this phenomenon can be seen here.

But identifying such a pattern means nothing unless a strategy can be created involving it.

Before I begin formulating such a strategy I like to quickly take a peek at Forex Factory’s Economic Calendar to see if anything is likely to help or hinder this directional trade by way of economic announcements… and one such announcement being made today is Industrial Production, which, according to the forecast is likely to be positive for the GBPUSD and should see it move north.

Okay, with that in mind what should one do?

Well, as the economic announcement isn’t anything major I’d still like to trade this currency in the direction of the formation. Therefore, I will place a sell stop entry order at 8930, with a further sell stop entry order at 8910 with stops for these at the 50% retracement zone of 8992 (+ spread).

However, as the economic announcement is slightly bullish in flavour I will place a buy entry stop at 8973 with stops at 8910 (I would then watch 9010 as a target, and if all goes well through this level 9070 as the ultimate target).

These orders will go on at 0400 NY EST if none of the entry prices have been broken since then.

This is just me thinking out loud… and not to be construed as trading advice.

But what about the EURUSD or the USDCHF? Don’t they have similar directional movements on their hourly charts?

They do, but if you look at their flag poles you’ll see that the poles (the directional part of their move) was interrupted - i.e. it wasn’t as sharp as the GBPUSD. And while I do prefer uninterrupted flag poles (where with each candle we see lower highs - for BEARISH flags - and higher lows - for BULLISH flags) the interruptions during the GBPUSD’s flag pole formation aren’t as lengthy in time and in price than the EURUSD and USDCHF.

Once every two-three months I like to gauge which currency is the strongest and weakest out of the top currency crosses (AUD, CAD, EUR, GBP, JPY, CHF) against the USD.

The reason I do this is that it helps to know which currency to open a position in if a negative or positive economic report is released by the USD, and to open a position that would best take advantage of the strong/weak USD economic report.

As an example, if the AUD has decreased 10% against the USD over the last 3 months, and the EUR has decreased 15% against the USD then if the USD were to release a negative report it could safely be assumed that the AUD will likely rally further than the USD as it hasn’t depreciated as much as the EUR.

Of course this is not always the case and here are some things to be mindful of:

• Does the economic report influence JUST the USD or are there other repercussions against the currency you are considering to trade?
• Does the currency you are considering to trade have any economic releases soon?
• What does the chart say?

There are many ways to gauge which currencies are the strongest/weakest against the USD. Here are some methods that I’ve used:

• Rate of change of the CLOSE over the last 20 trading days (or 60 trading days)
• Rate of change of a MOVING AVERAGE of the CLOSES over the last 20 trading days (or 60 trading days)
• Using channel lines

The method that I prefer is the rate of change of the moving averages coupled with the channel lines. I plot a 20-day moving average and then obtain the rate of change of this moving average over the last 20 days and 60 days. I then just compare the raw figures of these stats to see which currency has the highest number and which currency has the lowest number.

Once I have the two currencies that are the strongest and the weakest against the USD I then plot their charts to determine where resistance and support lay, as these technical zones override any arbitrary rate of change figure.

Here is a table showing these stats (note that the USD is the BASE currency for each currency cross - makes it easier to identify):

CURRENCY >> ROC(SMA(20),20) % >> ROC(SMA(60), 60) %
AUDUSD (2.07) (0.67)
CADUSD (0.99) (0.84)
CHFUSD (3.19) (2.54)
EURUSD (3.36) (2.65)
GBPUSD (3.64) (1.13)
JPYUSD (1.35) (2.53)

As you can see from the above table ALL currencies have weakened against the USD over the last 20 and 60 days (according to their moving averages). The strongest currency over the last 20 days against the USD has been the CAD, over the last 60 days it has been the AUD. The weakest currency over the last 20 days against the USD has been the GBP, whereas over the last 60 days it has been the EUR.

After today’s price action on the GBPUSD we now have a confirmed breakout of the long-term upward trending trend line and now hang in the balance with the latest breakout of the downward trending channel.

As we should all know from reading my previous posts about channel breaks which trend in the same direction as the break we are likely to see further volatility either UP (where the currency tries to get back into the channel… being 1.8160) or a collapse DOWN (a sharp fall for usually 300-500 pips over several trading days… I’m still expecting 1.7800 and possibly even 1.7700).

The GBPUSD also confirmed the breakout by closing BELOW Tuesday’s low which hints to me that the GBPUSD is more than likely to continue south.

It seems that after yesterday’s price action the EUR is far weaker than the GBP against the USD.

The EURUSD finished at 1.2303 nearly 150 below the channel whereas the GBP bounced back inside the channel!

So what can be expected today?

I would expect further downside for the EURUSD… especially considering that the Dutch are now voting on whether to ratify the EU constitution (the French voted NO). However, as it has been in my experience sometimes we can get some wild volatility in the other direction. So be careful with the EUR today.

With the GBPUSD I would watch the low of yesterday just in case the GBP really is weak and DOES decide to break the lower channel trend line. However, as the bounce of yesterday showed the GBP may indeed bounce even back over the broken UPWARD trending trend line that it broke yesterday (similar to what the EUR done on Friday after last Thursday’s break).

If the GBPUSD rallies back above 1.8200 we would have a confirmed bounce, if we see further downside with the EURUSD I would be expecting 1.2000 very soon (watch the news for the results of the Dutch votes too!).

If you’ve read our weekend post on the movement conducted by the currencies on Friday you would have been able to ascertain our view on the strengths of the GBP and the EUR in comparison to the USD. By analyzing the power of their retracement back into their downward price break on Thursday you would have known that the the EUR, while weak, was stronger than the GBP - as the EUR retraced further back into Thursday’s break than the GBP.

The GBPUSD failed to rally any higher than 50% of Thursday’s down move so it was to be expected that she would weaken further - with a break below the low of Thursday confirming it.

Yesterday there wasn’t to be much movement expected with both the GBP market and the USD markets shut, and indeed this was the case - the GBPUSD only moved within a range of 50 pips.

But what of today’s early break?

At the moment we have the GBPUSD sitting around 1.8150, slightly below the downward trending channel that is monitoring its current medium-term trend, AND we also have it outside its long-term upward trending channel! This doesn’t bode well for the GBP.

Let’s summarize:

• Breakout from its upward trending channel (will need to be confirmed tomorrow as I prefer two consective closes outside a trend line to confirm a break… NB: this doesn’t mean that I will wait until the second close though before I enter)
• Breakout from its downward trending channel - to the downside!
• Breakout candle forming (opened near its high, travelling at its lows)
• Confirmation of weakness by breaking Thursday’s low

So what’s going to happen to the GBPUSD?

If we see a close beyond 1.8150 today then I would assume that two things are likely: a large move back into the downward trending channel (i.e. a close above 1.8200), or a collapse to 1.7800 possibly 1.7700 within a week!

All of the above factors don’t bode well for the GBP folks and you can no doubt tell that I’m very bearish.

Today and tomorrow will confirm this for me.

What of the EURUSD?

With the EURUSD also confirming signs of weakness we have a similar situation to that of the GBPUSD. A break of the downward trending channel seen at 1.2450 (currently at 1.2392) has clearly indicated that this currency is weakening… especially considering the news made by the French to exit out of the EU!

Watch carefully when the European markets open within the next 5 hours to see how both of these currencies fare.

Looking at the economic announcement front I don’t see too much in the way of releases that can see any of this movement being reversed… maybe Friday with the US NonFarm Payrolls (as these look weaker than expected - for the US economy).

Targets for the GBPUSD this week would be: 1.7800 on the downside, 1.8200 on the upside (I really can’t see it getting up).
EURUSD: 1.2000 on the downside, 1.2600 on the upside (there’s more hope for the EUR getting up than the GBP).

We’ll see how things pan out, again, by tomorrow’s close we should be able to better foresee what is likely to happen.