USD Outlook Still Bullish but In-House Index Keeps Us Sidelined for Now

• Euro remains very well supported on dips
• Retail positioning still looking for USD strength
• Cable and Cad SSI ratios stand out and warn of more USD weakness
• UK GDP data much softer; opens intraday underperformance in Pound
• Key event risk later today in the form of the FOMC rate decision

We have yet to see any real justification for the latest Euro rally, but at the same time, would not recommend any selling of the single currency against the buck. While technically, there might be some sense to selling rallies above 1.3200, retail traders are weighted on the short side, and this makes the prospects for a bearish Euro reversal less likely. While our in-house sentiment index shows retail traders short EUR/USD at nearly 2:1, there are some even more disturbing ratios out there in the major currency pairs which also point to additional USD weakness. Retail traders are now over 4:1 short GBP/USD and over 6:1 long USD/CAD. These are uncomfortably high ratios that suggest additional US Dollar weakness could be in the cards before we finally see any real capitulation.

Relative performance versus the USD Wednesday (as of 9:50GMT)

AUD +0.18%

JPY +0.16%

EUR +0.11%

CHF +0.10%

CAD +0.05%

NZD +0.04%

GBP -0.30%

Again, we stress that overall our bias is constructive for the Greenback, but at the same time, we can not get behind any long USD trades while retail ratios favor long USD positions. Instead, we recommend waiting a little longer before looking to enter the market. Still, we would look to establish a fresh short position in GBP/USD on a break and daily close back under 1.6100, and a fresh long position in USD/CAD on a break back above 0.9930. Generally, when the market starts to move in the direction that retail traders are looking for, these traders are quick to book profit far too early, which results in a normalization of the ratio. So in this case, should we see a break of the levels mentioned above in GBP/USD or USD/CAD, we would expect that the ratios will be much closer to 1:1, and we therefore be much more comfortable with the respective trades.

Another possible strategy, albeit a more aggressive countertrend strategy, would be to look to sell GBP/USD into another rally, and to buy USD/CAD into another dip should these ratios NOT continue to widen. The idea here is that as much as retail traders would like to be adding to USD longs as the buck falls more out of favor, they simply reach a point where they are already way too overextended and get stopped out of their positions or simply give up. In this case, the USD is still selling off, but the ratio which normally widens, actually starts to narrow despite the ongoing USD selloff.

Here too there is a compelling opportunity to look to establish a countertrend long USD position (in this case against GBP and CAD), as the normally ill positioned retail traders have finally given up, to make the trade much more attractive. It is usually at the moment when retail traders have finally given up that we find that a trend will often reverse in the direction that they had hoped for. We call this the “of course” moment, because at that moment, just after they have exited the position for a large loss, the market turns around and aggressively trades in the direction they had hoped for. The retail trader is left with nothing else to say buy “of course” …”now the trade finally goes my way.”

Moving on, markets were fairly stable in the European session, although we did see some underperformance in the Pound after UK GDP data came in much weaker thane expected. Meanwhile, the Canadian Dollar rallied to multi-day highs, while the Euro stalled in familiar territory above 1.3200. Looking ahead, key event risk for the day comes a little later on in the form of the FOMC rate decision. While no change to rates or policy is expected, market participants will be looking for any changes to economic forecasts from the Fed. Any upward revisions to the economic assessment will likely translate into more broad based USD buying.

ECONOMIC CALENDAR

TECHNICAL OUTLOOK

EUR/USD: The latest round of setbacks have stalled ahead of some key multi-week support by 1.3000 and from here we still can not rule out risks for additional consolidation above 1.3000, before considering bearish resumption. Last Friday's bullish close opens the door for additional gains over the coming sessions, but ultimately, any rallies towards 1.3400 should be well capped. A break and daily close back under 1.3000 is now required to put pressure back on downside and accelerate declines to the early 2012 lows at 1.2660.

USD/JPY: The latest pullback from the 2012, 84.20 highs is viewed as corrective and it looks as though the market has finally found some solid support ahead of 80.00. The setbacks have stalled by the top of the daily and weekly Ichimoku clouds and we look for the formation of a fresh medium-term higher low somewhere around 80.00, ahead of the next major upside extension back towards and eventually through 84.20. Overall, this is a market that has undergone a major structural shift in recent months and we now see the pair in the early stages of a longer-term up-trend. Ultimately, only a weekly close back under 78.00 would negate. Any dips towards 80.00 should therefore be used as formidable buy opportunities.

GBP/USD: The recent break back above 1.6000 now opens the door for fresh upside towards the October 2011 peak at 1.6165. However, any additional gains beyond 1.6165 should prove hard to come by, and we once again see risks for a bearish reversal in favor of renewed weakness back down towards key support by 1.5800. A break and close below 1.5800 will then accelerate declines. Ultimately, only a weekly close above 1.6165 would negate underlying bearish bias.

USD/CHF: Our core constructive outlook remains well intact, with the latest setbacks very well supported by psychological barriers at 0.9000. It now seems as though the market could be looking to carve a fresh higher low, and we will be watching for additional upside back towards the recent range highs at 0.9335 over the coming sessions. Above 0.9335 should accelerate gains towards the 2012 highs by 0.9600 further up. Ultimately, only back under 0.9000 delays and gives reason for pause.

--- Written by Joel Kruger, Technical Currency Strategist

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