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Friday July 16, 2010 - 23:24:56 GMT
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Investor Sentiment Shifting Toward Risk-Off Scenario

Forex investors did an about face from earlier in the week, ending the week by dumping higher risk assets. The sharp rise in the Yen and the sell-off in commodity-linked currencies is a strong sign that investors are shifting toward a risk-off trading strategy.


The Euro surged to the upside shortly after the New York opening and before the release of U.S. economic data, briefly piercing the 1.30 level for the first time since early May.


The last thrust to the upside in the Euro was in anticipation of weak U.S. economic data which has been the main driving force in the Euro this week. With traders anticipating bearish reports, the release of a weak consumer sentiment number as well as consumer price report became a “buy the rumor, sell the fact” scenario.


Earlier in the week the Fed released a dovish outlook for the U.S. economy, forecasting a lower Gross Domestic Product and a sluggish jobs outlook. The European Central Bank, on the other hand, is more upbeat about the Euro Zone economy. The Fed is talking about renewing quantitative easing while the ECB sounds cautiously optimistic about the Euro Zone recovery. The difference in each central bank’s assessment of its economy is sending a signal that the ECB may be closer to raising interest rates than the Fed. This is encouraging some light buying, but the majority of the rally in the Euro has probably been short-covering.


Technically, the EUR USD attracted selling pressure at a Fibonacci number at 1.2998. After a prolonged move up in both price and time, the Euro is now trading lower, putting it in a position to post a daily closing price reversal top. This pattern usually suggests the start of a 2 to 3 week break or 50% of the last rally.


The weak U.S. economic outlook is driving investors out of higher yielding assets and into the safety of the lower yielding Japanese Yen. A sharp sell-off in the U.S. equity markets is fueled a break in the Australian Dollar. The combination of a worse than expected inflation report and weak U.S. stock market pressured the New Zealand Dollar. Weak equities and crude oil triggered a break in the Canadian Dollar.


Technically the lack of follow-through to the upside in the AUD USD following the attempted breakout over the main top at .8858 helped to pressure the Aussie on Friday. Based on the main range of .8315 to .8870, traders should watch for a correction to .8592 to .8527.


The current chart formation in the New Zealand Dollar suggests a correction to .7948 to .6988 is likely over the near-term.


The USD CAD continues to remain rangebound and quite choppy. Continue to look for a choppy, two-sided trade unless the Dollar/CAD crosses 1.0678. If this scenario develops, then look for an acceleration to the upside. This move will also be a strong indication that stocks and commodities are turning bearish.


The main trend is down in the USD CHF with the market currently testing its lowest level since early April. A shift in investor sentiment out of risky assets could trigger a turnaround in this pair. Friday’s action suggests that a closing price reversal bottom is forming which could lead to a massive short-covering rally next week. Based on the current chart formation, a breakout over 1.0675 will turn the main trend to up.


The GBP USD was under pressure on Friday following a strong weekly gain. Today’s weakness came as a surprise because this pair closed on its high Thursday. The sudden shift in investor sentiment is most likely a sign that investors feel the fading global recovery will hamper chances of a recovery in the U.K. and diminish hopes of a rate hike by the Bank of England.


Another sign that interest rates are likely to remain at historically low levels was the strong gain in British Gilts. Like the Treasury market is for the U.S. economy, the Gilt market movement reflects how investors really feel about the economy. Since Gilts rose, yields fell, thereby signaling that traders are factoring in lower interest rates.


The week started with the focus on U.S. corporate earnings, but quickly shifted toward the economy. While good earnings have been driving up demand, it appears that investors have decided that the economic data should carry more weight. The question being asked is can corporations sustain earnings growth in the wake of a weakening economy? Today’s action seems to indicate that the answer is no.


The key indicator to watch is the Japanese Yen. A rising Yen will be a strong sign that investors are forecasting a weaker global economy. Commodity-linked currencies are likely to suffer the most if investors lean toward a risk-off environment.


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