Currencies: Jan 16, 2014

USDJPY reached our target range and is reversing.  This is the key, today.

The rising white channel is clearly bigger than the falling purple channel, and as such could be expected to hold.  But, remember, it’s positively puny in comparison to the larger channels now in control of the big picture.

If they can’t arrest the slide at the potential H&S neckline, the next downside targets are the white 1.618 at 100.68 and purple .786 at 98.46.

We’ve been watching the USDJPY as it has been very highly correlated with US equities.   In the not too distant past, the key was the EURUSD.  For the past 9 months or so, the correlation has been pretty strong.

If we examine the 10-yr EURUSD chart, we can see that it’s been locked in a falling channel since the 2008 highs.  Interestingly, it has returned to the top of that channel — where past reversals have not been kind to US equities.

The last two channel-top tags were accompanied by significant SPX drops of 53% (from Apr 2008) and 22% (May 2011.)

The future of the euro is anything but certain, but my interpretation of the charts is that the rising red channel is the most dominant.  I’ve highlighted the .618 channel line, which EURUSD is currently backtesting.

The backtest was touched off by a third bounce off the neckline of a completed H&S Pattern (in yellow.) Had the bounce not occurred, I suspect the pair would have tested the white .618 Fib at the bottom of the falling white channel in Aug 2012, backtested the neckline, and proceeded to the bottom of the red channel at the .786 Fib (still a good possibility.)

The H&S Pattern didn’t pay off (yet) because the pair strengthened when the Fed maintained and even discussed increasing the pace of QE in mid-2012.  The pair bounced, even managed to gain a toe hold on the recently lost yellow channel bottom — which it has since again lost.

To summarize: EURUSD has reversed off the top of the falling white channel, fallen below and is backtesting the red .618 channel line, fallen below and is backtesting the yellow channel bottom, and has reached the white .618 Fib line.

Another, simpler way of looking at it is in the context of the neckline — which makes for a terrific channel midline as seen below:

Note that yellow channel also does an excellent job of capturing SPX’s moves over the years.  The area to the lower right — SPX below 1000 and EURUSD below 1.20 — is interesting to me.  It represents, I suppose, the downside case.

That is, if the market should fall apart in the next few years and retreat to the falling purple trend line at, for sake of argument, 550 in mid-2016, would it surprise anyone if EURUSD also fell below 1.00.  Surely, such a market meltdown would be accompanied by tough times on the continent, and the USD would likely revert to safe-haven status.

If the EURUSD and USDJPY are both poised to drop — and, it’s by no means a foregone conclusion — it implies that the dollar is strengthening against the euro, but the yen is strengthening against the dollar.

This implies to me that the catalyst might come from Asia.  There’s little question that QE has done a marvelous job of inflating bubbles across Southest Asia:  Singapore, Thailand, Indonesia, Malaysia, Philippines.  Their stock markets are up 3-5X, and their currencies have all soared versus the yen — especially since Abenomics kicked in.

The Singapore dollar is up over 40% since its lows.

Ditto the Thai baht.

Collectively, Singapore, Thailand, Indonesia, Malaysia and the Philippines represent about $755 billion in currency reserves — about 60% of Japan’s $1.3 trillion.  Throw in Hong Kong’s $309 billion and Korea’s $345 billion, and the total exceeds the yen’s $1.3 trillion.

Money supply tells a similar story.  The five “smaller” countries total about $1.8 trillion; adding HK and Korea brings the total to $5.3 trillion — about half of Japan’s total.  And, the growth has been completely lopsided, with a significant concentration in the smaller, faster-growing countries and little growth in Japan.

The reality is that much of the money invested in the fast movers comes from Japan.  Naturally, when markets roil, money would return there — boosting the yen and throwing the others in a 1997-like plunge.

So, what happens when both the EURUSD and the USDJPY decline in unison?  Since they began moving roughly in tandem in 2006, it hasn’t worked out well for US stocks.  SPX declines have ranged from 11 to 49%.

Stay tuned.


Currencies: Jan 16, 2014 — 1 Comment

  1. Beautiful charting PW. Do you think gold fits into this picture? I can’t help but notice that its very close to the trendline that has guided it upwards for the last 13 years. Its also been pretty detached from the equity rally the last 2 years as well.