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Thursday January 21, 2010 - 14:33:30 GMT
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Stock Market Refuses to Yield to Stronger Dollar

Despite a move by China to tighten its monetary policy, U.S. equity markets mounted a strong recovery late in the trading session on Wednesday.  This served as a sign that there is plenty of money on the sidelines and that investors continue to maintain a “buy the dips” mentality.

 

The March E-mini S&P continues to show strong support at the .618 retracement level of 1124.00. The only obstacle in the way is the high for the year at 1148.00.  Volatility has picked up considerably the past three days, highlighted by triple-digit moves in the Dow.

 

The market has been hit by bearish news all week, but continues to show resiliency. Although a change in trend is unlikely at this time, the S&P 500 still remains vulnerable to a short-term correction to 1105.00. Some traders may be lured into buying a dip today because of the action the past few days, but if you follow the “Rule of 3”, the next break is likely to fail, triggering a sizeable break.

 

Demand for safety has been boosting March Treasury Bonds and Treasury Notes, but this action is likely to end soon when the Treasury begins increasing debt supply with another auction.  The news that a Republican has been elected to the Senate has helped to lower yields on the perception that many of the Democratic spending plans may be curtailed.  The current rally in the March Bonds is most likely setting up another selling opportunity.

 

February Gold broke sharply lower on Wednesday and continued the move overnight. Traders are dumping positions as the need for a hedge against inflation has been diminished by China’s decision to tighten its monetary policy.  Conditions could be approaching oversold status so traders should watch for a short-covering rally.  The best sign of developing strength will be the regaining of a retracement level at $1108.70.  A turnaround in the Dollar today could be the catalyst for the start of a short-covering rally.

 

The lack of follow-through to the downside after the Dollar surged to a new 5-month high has helped stabilize March Crude Oil.  Currently, this market is locked inside a retracement zone at 77.70 to 78.99.  Speculators are most likely on the sidelines ahead of this morning’s Supply/Demand Report.

 

The U.S. Dollar surged overnight as traders took protection against a shift in China’s expansionary monetary policy. The overnight announcement, that China’s economic growth and inflation figures exceeded expectations fueled speculation that it was poised to begin restricting loans and ending stimulus.  Fear that the economy may overheat is triggering demand for lower yielding assets at the expense of higher risk assets.

 

Overnight the Cash Dollar Index rallied to its highest level in 5 months and now seems well on its way to retrace its 2009 range of 89.62 to 74.17.  This makes 81.90 to 83.72 the next valid upside target.

 

The March Euro weakened further overnight as the cost to protect Greek bonds from default soared to a new record.  Losses were limited, however, by a rumor which said the European Union was preparing to loan money to the country. The rumor was denied, but investors, nonetheless, took protection against a possible massive short-covering rally by lightening up positions.

 

The chart pattern suggests the Euro is holding the psychological level of 1.4000; however, 1.3790 remains the next valid downside target.  Short-covering today could send this market back to the old bottom at 1.4215.

 

The March British Pound weakened further overnight on the news that the U.K. budget deficit widened.  A lack of confidence in the economy could also be a driving force behind the recent weakness as investors fear that the U.K. may be falling behind its peers in the midst of the economic recovery.

 

The current two-day break has created two key ranges:  1.5825 to 1.6454 and 1.5890 to 1.6454.  These ranges create retracement zones at 1.6140 to 1.6065 and 1.6172 to 1.6105. The overlap of these two retracement zones suggests possible support developing inside 1.6140 to 1.6105.  In addition, uptrending Gann angle support is at 1.6132 today.  Watch for a possible technical bounce in this zone.

 

The March Japanese Yen is falling again overnight on speculation the Japanese Yen is poised to once again become the world’s carry currency.  Additional weakness hit the Yen following a report that demand for lending dropped.  This news could raise fears of deflation and is definitely a signal that the Bank of Japan will keep interest rates at historically low levels at its January 25th meeting. 

 

Investors seem to believe that Japan will be the last country to exit its stimulus plans.  This line of thinking was backed by a comment from Bank of Japan Governor Shirakawa who said the central bank “is aiming to maintain an extremely accommodative financial environment”. 

 

Based on the short-term range of 1.0679 to 1.1076, traders should continue to look for the Yen to break to 1.0878 to 1.0831 before finding buyers.  Additional support is at an uptrending Gann angle at 1.0904. 

 

The March Swiss Franc continued to weaken overnight.  The next downside target is the December low at .9522.  Gann angle resistance is at .9555.  This angle has to hold or the profit-taking stops will trigger a huge short-covering rally.  Traders have been buying the Dollar against the Swiss Franc in anticipation of an intervention by the Swiss National Bank because of its appreciation against the Euro.

 

Technical factors could support the March Canadian Dollar now that it has retraced greater than 50% of its recent rally.  Based on the main range of .9303 to .9780, the key retracement zone is .9510 to .9461. This market is currently testing this area.  A failure to hold downtrending Gann angle resistance at .9580 will be another sign of strength. 

 

Fundamentally, the recent action by the Bank of Canada suggests that it will defend against a rapid rise in the currency.  This creates a potentially long-term bullish scenario. Short-term conditions are overbought, which may trigger a mild correction.

 

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