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A New Beginning
Happy New Year to all of our readers! I hope you had a profitable 2007, but no matter how the markets treated you this year, we can all make 2008 a great year. Let's all decide right now that 2008 will be the year that we trade smart, putting risk management first and foremost while we check our bad trading habits at the door. If we want to succeed badly enough, then nothing can stand in our way. Let's all make 2008 a year to remember!
A Crack in the Cable
The British Pound has taken quite a beating over the past few weeks, but is it finally finding support? Last week we said the Great Britain Pound – U.S. Dollar chart (GBP/USD) is forming a series of lower highs and lower lows, a bearish technical pattern. Any potential psychological support at 2.0000 was blown away, as cable sliced through the figure like a hot knife through butter. The momentum to the downside has slowed, as we can see by the smaller candles at the hard right edge of the daily chart. This means that a short-term bounce could be in the cards (see figure 1).
Figure 1: GBP/USD's descent appears to be losing momentum. Source: Saxo Bank
Does this mean that it's time to rush in and buy British Pounds? I think not. In fact, my strategy is to wait for a GBP rally, and use it as an opportunity to sell the Pound short. Having just returned from London, I can tell you that the negativity over the economy there is growing, and there is a real fear that the U.K. real estate market may be in for a tumble. Last week, it was learned that the Monetary Policy Committee – the decision making body that governs interest rates in the U.K. – voted unanimously to cut rates by a quarter point (to 5.5%) at the Bank of England's most recent policy meeting. The MPC even debated a larger half-point cut, which demonstrates their level of concern about a potential slowdown. This tells us that another rate cut is coming in January, and it's very likely that we'll see more than just one more rate cut. A series of interest rate reductions would likely cause a continued slide in the British currency, which has had a tremendous run vs. the USD for the past two years. The weekly chart of GBP/USD gives us another perspective of the recent selloff, and shows that there is still plenty of room on the downside for this currency pair (see figure 2).
Figure 2: GBP/USD has had a tremendous run, now in jeopardy. Source: Saxo Bank
Of course, the U.S. Dollar is no bed of roses either. Still, a long USD position vs. the British Pound might be used to offset a short USD position vs. a stronger currency, such as the Euro. While in London, I appeared on CNN to discuss the reasons why I believe the recent gains achieved by the U.S. Dollar will evaporate in the New Year. Despite recent USD strength, Euro has held up quite well vs. the greenback and is punishing some of the weaker currencies. For example, take a look at the beating the British Pound is suffering at the hands of the European currency (see figure 3).
Figure 3: Euro reaches a new high vs. the British Pound. Source: Saxo Bank
While U.K. interest rates and housing prices are falling, Europe is another story. Earlier this week, Jean-Claude Trichet, head of the European Central Bank (ECB), told the Financial Times that inflation risks in the 13-nation region were to the upside while growth risks were to the downside. This means that the ECB is less likely to cut interest rates, and that the Euro will benefit from falling rates in the U.S. and the U.K. So the fundamental picture favors the Euro, but what about the technical side of things?
Well, the pullback in EUR/USD is shallower than the one illustrated earlier in GBP/USD, and the pair has been holding steady for the past week right in the vicinity of a major Fibonacci retracement level. These are positive technical developments that harmonize nicely with the fundamental picture, so we might see a strong Euro right out of the gate in 2008 (see figure 4).
Figure 4: EUR/USD is finding support at the 38.2% Fibonacci level. Source: Saxo Bank
To see my appearance on CNN in London, please click here
Special Event in New York Chestnuts roasting on an open fire, Jack Frost shouting at a cabbie, "Hey, I'm walkin' here!" Why, it must be Christmas in New York! John Bang, Tony Michaels, and the whole gang at Online Trading Academy New York would like to invite you to attend a free seminar and book-signing event with me on Wednesday January 9, 2008. Hey, what else would you expect from the Online Trading Academy's Franchise of the Year? Mark your calendars and don't miss this event - I can't wait to see all of my friends in the New York area!
End of the Year Trading
As we approach the end of 2007, many traders have already placed their final trades and are balancing the books for the year. However, there are other traders who are still attempting to reach their year-end goals, or managing open positions, and these individuals need to trade with caution. Watch out for low-volume trading; if you've never traded forex in a low-volume environment before, you may want to watch from the sidelines or gain experience by trading in a demo account. Some traders actually enjoy trading under these market conditions, but most do not. We are likely to be in this type of market for the remainder of the year.
Low volume does not necessarily mean low volatility; in fact, the lack of players can actually create greater volatility. Think of it this way; when a large buy order is placed, other traders who wish to sell fill that order. If there are fewer market participants than normal, the price might have to move higher in order to find enough sellers to fill the buy order. Under these circumstances, we can see how an order that wouldn't have the power to move the market under normal conditions now can do exactly that. This creates an environment that features quick, spiky movements followed by long periods of flat trading.
The unpredictable nature of trading at this time of year is exacerbated by the fact that rumors tend to circulate. Why do market rumors run rampant at this time of the year? Traders who are aware of the low-volume conditions know that it doesn't take much to move the market. Let's look at a scenario; perhaps a bank trader is holding a large long position in the U.S. dollar and wants to get out at a profit, so he can close the books for the year. The trader then creates and spreads a rumor, for example telling other traders that he has learned that the January 4 U.S. employment report will be much stronger than expected. Since the trading desks at this time of year tend to be populated by inexperienced assistants, these traders may not know whether or not to take this rumor seriously. If the rumor takes hold, the dollar may float a bit higher, allowing the bank trader to get out of his position. The trouble with rumors is this; we never know if they are true or not. But at this time of year, the rumor mill is working overtime, and most of what it produces is bunk. Be careful!
Have a question about Forex trading? Send an email to eponsi@tradingacademy.com and we may use your question in an upcoming newsletter. Until next time, best of luck to you in trading.
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Ed Ponsi is a globally recognized name as a lecturer and teacher and is the former Chief Trading Instructor for Forex Capital Markets. An experienced professional trader and money manager, Ed has advised hedge funds, institutional traders, and individuals of all levels of skill and experience. Ed has appeared on CNBC, CNN International and TheStreet.com, and has recently written his first book for Wiley Finance, "Forex Patterns and Probabilities" (which you can purchase through