A Mighty Breakout

Last week saw a breakout of historic proportions, as the U.S. Dollar got up off of the mat and roared higher across the board, crushing everything in its path. Here we see the Euro - U.S. Dollar currency pair (EUR/USD) crashing back to earth on the weekly chart after hitting a new lifetime high above 1.6000 just a few weeks ago. The pair has found support at a former level of resistance from late last year (see figure 1).


Figure 1: EUR/USD plunges from a failed ascending triangle. Source: Saxo Bank

Looking at the chart, I'd have to say the Euro has a very good chance to break this new support level and continue lower, just based on the sheer velocity of the move. An awful lot of people made an awful lot of money on the Euro uptrend, and now it's time for them to ring the register.

If you are a regular reader, you know that this is a bittersweet moment; as an American, I'm happy to see my currency strengthening, as I've been constantly railing against the weak USD in articles such as this one, titled The US Dollar and the Thief in the Night. Because of that piece I was invited onto Larry Kudlow's show on CNBC. But is the greenback really doing all that well, or is this just a case of the Euro and other currencies doing poorly? To find out, let's look at the hourly chart and pinpoint the genesis of this move. The Euro began to fall in earnest around 9:00 am New York time on August 7, right at the time when European Central Bank chief Jean Claude Trichet said that European economic growth would be "particularly weak" through the third quarter (see figure 2).

Trichet Speech

Figure 2: Trichet speech ignites the USD rally as the Euro gets crushed. Source: Saxo Bank

So last week's big move is not a vote of confidence in the U.S Dollar; instead, it shows a lack of confidence in the Euro. Still, the tide has turned at least for now, so don't try to fight this move. Also, don't feel too bad for traders who were short the greenback for most of this year, myself included.
The weak USD trend has been my friend for quite a while, and it's sad to say goodbye to that friend for now. Until now, this year has been one of the best in memory for USD shorts. Right now it is too early to tell, but if a new trend of USD strength emerges, you can bet trend traders will be riding it.

Why the Euro REALLY Fell...

A one euro coin has turned up in Spain bearing the face of Homer Simpson instead of that of the country's king, a sweetshop owner told Reuters on Friday. Jose Martinez was counting the cash in his till in the city of Aviles, northern Spain, when he came across the coin where Homer's bald head, big eyes and big nose had replaced the serious features of King Juan Carlos. "The coin must have been done by a professional, the work is impressive," he told Reuters. "I've been offered 20 Euros for it."

Question of the Week

Q) Hi Ed, can you please give me the average daily volume of the following Forex currencies: GBPJPY, EURJPY, and CADJPY?

Ed Ponsi) Thank you for your question. This week I received several questions relating to volume in the Forex market, including requests for volume figures for specific currency pairs. As Forex traders we enjoy many advantages over other trading markets; a huge market with unmatched liquidity, tremendous leverage, low barriers to entry, protective stops that are reliable when compared with other markets, and much more. If there is one major disadvantage to trading currencies, it is the lack of accurate, reliable volume figures.

When you place a stock trade, for example on the New York Stock Exchange, every trade is processed. Every trade is time stamped, and the size of the trade is recorded. In the early days, volume was easy to track - for example, the NYSE average daily volume in 1824 was 380,000 shares. Traders watch volume figures to see if directional moves are backed by real money; any move that occurs on high volume is considered to be legitimate and sustainable because high volume is the footprint of institutional traders, the banks, funds and brokers who are considered the "smart money" of the trading markets. If a stock is rising on high volume, big players could be making a major commitment to the stock; they just might know something that we don't. In contrast, moves that occur on light volume are considered more likely to retrace because the institutional players, the ones who generally have the best research, are not committing substantial funds to that stock.

The problem we are faced with in the currency markets is one of sheer size; the market is so vast, and so many trades are occurring around the clock, twenty four hours per day, that it would be impossible to keep track of it all. Recent estimates place average daily Forex volume at $3.1 trillion USD per day. So what is a Forex trader to do? Well, there are futures contracts available on some currencies, and volume figures are available for those contracts. The trouble is, there is no way of knowing if the volume on the futures contract is an accurate representation of the volume in the spot Forex market; some people assume that it is, but that does not make it so. Some Forex charting packages do come with volume statistics, but these can be very deceptive. If your Forex broker is offering charts that include volume figures, please be aware that you are looking only at the volume that is passing through that broker's hands, and not an accurate measurement of overall volume. The figures you are looking at represent considerably less than one percent of the overall volume, and some of the brokers who provide volume statistics need to be more upfront about this.

What is the solution? When you see a big breakout occur, look at the time of day. If a breakout occurs during a time of day when volume is known to be high, it would be reasonable to assume that the breakout is occurring on high volume; if it occurs during a time of day when volume is known to be low, the opposite would be true. It is not a perfect solution, but unless and until accurate volume figures become available, we will have to do the best we can with what we have. With so many advantages favoring the Forex trader, there was bound to be one area where we don't have the edge, and this is it.

Have a question about Forex trading? Send an email to [email protected] and we may use your question in an upcoming newsletter. Until next time, best of luck to you in trading.

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