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21/10/2014: The dollar is now in correction mode and today’s volatility is ready to throw up some opportunities


The volatility on financial markets is calming down. Last week we had fear and panic spreading like wildfire. Equity markets were plummeting, whilst forex markets were seeing huge daily ranges amid record volumes.

However as traders fretted above all manner of negative market factors, the safety net of the Fed seems to have stepped in to sure up confidence once more. Despite neither having a vote on the FOMC, the dovish comments of James Bullard and Eric Rosengren have settle nerves and also pushed out expectations of a Fed rate hike (which was certainly one of the reasons behind recent market weakness).

Looking at the chart of the Dollar Index (.DXY) there is a definite downtrend channel that is forming now. The downtrend channel on Dollar Index suggests a retreat back towards a test the the support range around 84.60 is likely to be seen now.  However the volatility within the downtrend channel is clear to see, especially when taken in the context of quite an orderly and low volatility dollar rally seen previously. If the channel does continue, the rebound today is back towards the limit for the dollar and therefore we can expect a resumption of dollar weakness in due course.

DXY   21102014

This dollar weakness would be consistent with the fact that the market has recently drastically repriced expectations of the first Fed rate hike. The Fed Funds futures are suddenly now not pricing a rate hike until Q1 2016, which is around 6 months later than had been factored in a few weeks ago. Given that the expectations on ECB monetary policy are broadly unchanged this explains to an extent why the Euro has performed well against the dollar of late. Technically, the Euro is settling above the supprot around $1.2700 now and is taking on a slightly positive bias now. The rate has now spent the past 4 sessions trading in a range $1.2700/$1.2845 and if the latest correction within the range can form support once more, it could prove to be an interesting near term buying opportunity.

Although expectations for a Bank of England rate hike have also been scaled back (from Q1 2014 to summer 2014), Sterling had already been weak in the early part of last week. The sharp fall in UK inflation had been the driver, but now there is the prospect of the dollar weakening too. Tomorrow’s US CPI inflation data could be a catalyst for a further dollar correction if it misses expectations of 1.6%.

GBP/USD has been rebounding over the past few days and although today has been a touch weaker, the prospect of a breach of the 13 week downtrend is an interesting turnaround. The near to medium term outlook will improve dramatically if there is a breach of the resistance at $1.6226 which is the first key reaction high within the downtrend.

Gold is another asset to take advantage of this dollar weakness to breakout. The close above $1240.60 was followed by an overnight push above $1250 and this suggests that the bulls have accepted the new breakout level and are ready to continue the rally. Despite a retracement today amid some choppy trading, there is now a good band of near term support $1240/$1245 and settling at support could give another chance to buy. The outlook now suggests a rebound towards the top of the old downtrend channel (currently around $1268) with $1260 initial resistance prior to the next important medium term barrier at $1280.

Gold   21102014


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