Much thanks goes to Steve Garner – Gatetrader – for his ongoing insights found in the commentary section about the S&P, crude oil, volatility, and interest rates.  He taught me almost everything I know about bonds and interest rates.  Along with Ox, another great trader, he opened my eyes to inter market dynamics and paved the way to foreign exchange trading.

The dollar has been slapped around for quite a while now.  There are signals which suggests a trend change is in the making which will have a profound effect on commodity prices and markets.

In early March a wolfewave pattern gave rise to a topping pattern in the dollar index.  Now there is a clear positive divergence (lower prices, higher momentum) which was confirmed in Friday’s trading session.  The larger structure suggests that an Elliott 5-wave pattern has completed, and in the weekly timeframe there is pocket support and the presence of a large A-B-C structure.

Crude Awakening

Crude oil drives both political and psychological markets.  It is now against pocket resistance on the daily charts at 72.  This swing trade will be very profitable on a move back to the lower 60′s to form some type of channel or symmetrical triangle pattern.  Pocket support will be around 62-63.

The dollar got a bounce exactly where expected.  Pixel perfect.  Along with foreign exchange gyrations, the markets where subjected to the whim of options expiration and quadruple witching.  Max-Pain is the order of the day.

This is a multi-year pattern developing in the dollar – a cup & handle, or inverse head & shoulders.  The key to this setup is symmetry – notice how each pullback this past year corresponds with low marks in the years 2004-2005.  Much like the yen surprised every trader banking on a cheap source of fund borrowing, so too the dollar is in the beginning stages of a  move higher, especially if there is a breakout above the rim now clearly defined around 90.  This area of ‘pocket resistance’ is a key pivot in the months ahead.

Talk about quantitative easing!  Bernanke has induced a wholesale rout of the dollar in response to (yet) another round of government-sponsored spending.  This is now a remarkable 5% loss in spending power over two days – and yet another tool to inflate equity and commodity prices.  This is testing a make-or-break level for the dollar, since 83.25 represents a spike high support from June 2007 and rising trend line.

This is a follow-up to the March 10 wolfewave setup in the financials.  They are now at target levels after a remarkable week.  Technically, this is the first solid lift above the daily 20 exponential moving average.

US Dollar index update – the setup which was first flagged on March 3 as the dollar was retesting its 2008 spike highs has indeed produced a clean pullback.  It is now approaching target levels – and as expected, dollar-denominated equities / stocks / commodities have lifted nicely in response to movements in the foreign exchange markets.  With the Fed action expected today, I believe that the target levels will be met around 85-86.  In the larger context, this will be an inverse head & shoulders pattern in the making.  A day to book profits in short dollar positions (long EUR AUD) after the Fed announcement in any late surge.

7:00pm update – Wow.  The Fed announcement that they would be buying up to $300 billion in long-term goverment bonds sends the dolllar into a hard tail spin, ending much lower than the projected wolfewave target.  At this juncture, it has pulled back exactly 59% of the previous swing high on the daily chart.  Interestingly enough, this is the same percentage at which the swing low was recorded on the weekly chart in mid-December retracement.

A follow-up to the March 12 setup – markets have now retraced to the January spike lows around 800.  The Advanced GET software is suggesting that a 5-wave advance has completed on the hourly charts.

3:30am – The dollar is seeing a significant movement lower ahead of the jobs report expected today. This is generating a lift in the Euro and in lockstep, the globex futures have now ticked into positive territory which mirror the gyrations in the foreign exchange markets. Expect the 1% drop in dollar to be reflected in a similar lift in the futures before the open.

Is this perhaps a manifestation of the positive divergence noted into the close yesterday on the hourly charts?

12:00pm – The EUR/USD cross is a great way to get leading signals on the S&P market movements.  It is the same as saying that the equities move inverse to  the US dollar.  Here are examples of the EUR/USD vs. ES futures 5 minute charts.  Notice the correlation in price action as well as 5/35 MACD (a momentum indicator).

3:30pm update – small a-b-c completes an hourly bear flag.  Testing lower bounds of the pattern setup (a confirmation zone / make-or-break level) here.

The dollar is retesting the 2008 highs.  Although it will likely go higher, an equity rally will undoubtedly be triggered first by a pullback in the greenback.  Pay close attention to this index as it test the highs.

Yen update – The previous head & shoulders pattern has evolved into a double top setup. Once again a place to tighten stops as this pattern approaches to target measurement.  This will also constitute a 62% retrace from the daily swing high and represents a multi-year breakout pivot at 0.98 that should provide very strong support.

Linda Raschke made an interesting observation about support / resistance levels.  Rather than assuming that price action will bounce off spike high / low marks, it is also good to consider ‘pockets’ or inflection points which produced a reversal.  Such is the case as the 2008 financial crisis produced a fall directly into the 2002-2003 pocket.

The dollar is now facing a similar technical level as it retests the DXY 87-88 level.  The Japanese yen is in a similar situation as it tests the 1.13 pocket on a daily basis.  In this endless cycle of competitive currency devaluation, we are now approaching a juncture where foreign exchange traders can short dollars and yen.  As far as equities are concerned, this should produce a lift as a weaker currency is deemed to be advantageous for corporations.

Currency devaluation produce effects on nominal prices.  In order to keep things equal, devaluation will produce a perceived higher price for the same goods.  In June 2001, the dollar index topped around 120, only to fall precipitously to around 72 by July 2007.  The net effect is that gasoline skyrocketed along with other commodity prices.  As the dollar strengthened last summer, the CRB (Commodity Resource Board) index headed the other direction and produced a significant top.  The same can be said for the Dow Jones Industrial Average which peaked a few months later around 14,000.

It benefits the trader to keep an eye on the foreign exchange market, since it is the means of producing stealth price adjustments.  A currency devaluation is an easy means to entice the public into believing that prices are going up, yet what is really happening is that your buying power is diminished.  Looking back at the Dow Jones in 2000, it appears as if the 11,215 peak was shattered in 2007, yet in dollar-adjusted terms, a 62% (Fibonacci fans rejoice) retrace was completed.

Bernanke cut the fed funds rates a full 75 basis points, effectively putting the short-term interest rates at 0-0.25%.   All this is done in an effort to ease the credit markets and the equity markets responded with a romp higher on Tuesday.  Is this reason to cheer?

It creates an awkward situation where anyone holding money market funds are effectively shackled with negative returns.  This is of particular concern to anyone living on fixed-income investments (most retirees).  It will have little or no impact on credit card debt; it will just make the credit card companies richer.

Dollar dump

I’ve been writing a lot about the technical issues with the dollar.  It officially tagged the downside head & shoulders measurement today, meaning that it took less than a month to cut five months of gains in half (for technicians, this is a Fibonacci 50% retrace).  US consumers are faced with a -10% slide in buying power in less than two weeks.

The dollar is now the carry trade of choice, effectively replacing the much-shorted yen of yesteryear.  This means that is pays to exchange all your bucks into any other currency – Euros, Aussie Dollars, Japanese Yen, Swiss Francs, or physical gold.  State Street Global Markets, a unit of the world’s largest money manager for institutions, said the Fed’s move is “perilous” for the dollar as investors accumulated an “extreme” long position on the currency, or bets it will climb.

Competitive Devaluation

International governments are racing to devalue their currencies as fast as possible.  Russia provides a rather interesting insight into the psychology of a primary cash-based economy since the use of credit facilities is almost unknown, and most consumer transactions are done with hard cash.  People withdraw their money from banks and immediately buy up whatever is for sale, effectively exchanging worthless paper for hard goods.

This is the intended effect that Bernanke’s cuts are supposed to have on the American consumer.  Given the precipitous drop in consumer spending over the past months, the idea is to enforce a ‘cash is trash’ policy, yet another spin on ‘dropping dollars from a helicopter’ monetary policy.  By making it difficult to hold ever-depreciating dollars, it should encourage everyone to do as the Russians – spend.spend.spend since your money will clearly be getting you fewer goods the longer you hold onto your savings.

The globex overnight futures ramp up in an attempt to entice the public.  Once again, there is a wolfe running in the bull stampede.  At 11:00 am the target is tagged – time for a bounce sequence?  Thanks to scooter in the b-line channel for a great chart and corroborating evidence of AM low.

1:10 pm update – A second wolfewave tags target levels.  Thanks to Makai for chart and setup.

3:20 pm update – A trendline touch is registered.  Consider this a short-term bounce level.  A place for dayshorts to cover AM bets.  Thanks to Ben in b-line.

3:50 pm update – What a bounce.

The Amazing Shrinking Dollar

The dollar continues to exhibit weakness, the game is once again a notion of “cash is trash”, encouraging everyone to put their money into the markets.  It makes American goods cheaper (good for corporate profits), yet bad for the consumer (everything gets more expensive)  It is now approaching the head & shoulders pattern measurement, with spike high support around 81.1 and 80.5 from the weekly charts.  The pattern target is based on 89.7 head – 85.4 neckline = -4.3 measurement; subtracting measurement from the neckline, you get a target at 81.1.  For candlestick fans, an ‘evening doji star’ is registered on the monthly chart.

The FOMC is meeting Monday and Tuesday and expected to drop interest rates another 50 basis points, to 0.5%.  There has been an amazing amount of money poured into government treasuries in the past months as foreigners have parked their money in dollars as a safety measure against a global rush to devaluate currencies – the yen (which cannot drop interest rates any further) has seen a rise to 13 year highs.

Bond, James Bond

At the same time, we must question how much longer foreigners are willing to finance the every-growing debt that the US is tapping from world markets.  This is most likely one of the ‘unconventional approaches’ used by Bernanke to drive mortgage rates lower, yet at the same time, would you be willing to loan money to the United States government for 30 years and expect only 3% in return?  Jim Rogers has also highlighted this conundrum in Fortune’s ‘8 really, really scary predictions‘.  Consider the notion that the dollar has lost 7.2% in value in six trading sessions.  Is the US treasury bond the next bubble waiting to burst?

The smartest mind in bond land is arguable Bill Gross of PIMCO.  In his monthly commentary, he outlines how money flows through asset classes, with the Fed Funds rate at the epicenter of any monetary movements.  His eloquent commentary is a must read, along with a poignant discussion their current investment strategy.

The overnite futures contract falls well below target levels, and achieves a rising channel breakdown target right on the open. What is perhaps more disturbing is that the dollar has confirmed the head & shoulders setup and is now testing the neckline – a solid 5% drop in buying power in less than four days.

10:30 am update – a solid elliott 5-wave advance is registered on the 1min chart. The markets are rallying on the exceptionally weak dollar to keep all things equal. At this juncture, however, a short can be initiated with a 2 pt stop.

2:30 pm update – An impulse down wave shows. The measured move sequence will target 889 levels.

3:20 update – An opening range reversal pattern is now in play. The last move down showed very little / no overlapping structure and must be considered an impulse wave (elliott wave 3 in action).