This text is from blog famous currency strategist Joel Kruger .
FRESH EURO UPSIDE SEEN BEYOND 1.2450 – The Euro has managed to marginally extend gains on Tuesday. Although, key resistance at 1.2445 still needs to be taken out in order to open the next upside extension towards the 1.2600 fib objective (see 38.2% of 2012 high-low move and 78.6% of June-July high-low move). Still, any Euro weakness from here should continue to be very well supported ahead of 1.2250. Overall, the key standouts on the day have been the higher inflation readings out of the UK, and the much softer economic sentiment component from the German ZEW. Market participants will now look to digest the US retail sales number and attempt to determine what, if any impact the reading will have on Fed monetary policy and prospects for additional QE.
OUT WITH THE EUROZONE AND IN WITH CHINA – Nevertheless, individual economic data releases should take a backseat to broader global macro themes. I expect that ongoing developments out of the Eurozone (with respect to further attempts at a formal stabilization), and out of China (with respect to a harder landing than most had been anticipating), will be the primary drivers of price action and flow. On Monday, the major story (in my opinion), was the relative outperformance in the Euro. More important than its rally against the US Dollar (which we have already been seeing), was the rally in the single currency against the commodity bloc and EM currencies, where it has been grossly underperforming over the past several months and even years.
CAPITULATION TRADE – I contend that we are very close to establishing some critical cycle lows in the Euro/Commodity and Euro/EM crosses, with a good deal of downside risk needing to be priced out of the Eurozone, and transferred over to the paradoxically safe haven/higher yielding currencies. Throughout the US and Eurozone recessions, a good deal of money has been pumped into the commodity bloc and emerging markets. However, the interesting thing here, is that aside from the conventional yield attraction to these markets, they have also taken on a safe-haven status, given the market perception of decoupling in these regions. While this strategy has unquestionably paid off to this point, its days are now numbered and we could already be on the verge of a major capitulation.
DISTANCE NOT TO BE CONFUSED WITH IMMUNITY – Although the commodity bloc and emerging markets may have been relatively immune to this point, the idea of decoupling is pure nonsense. It is simply more a function of the ripples from the global slowdown not yet reaching the commodity bloc and emerging market shores. A combination of signs of stabilization in the Eurozone and further deterioration in the Chinese economy (commodity and EMs highly correlated to China), will likely unveil this truth and result in a massive repositioning. While the US Dollar is likely to also benefit against these markets, as the commodity bloc and EM liquidation builds momentum, I ultimately see more upside for the Euro, given the downside that has yet to be fully priced out of the Zone. It is true that the Eurozone still has major obstacles to overcome in order to return to some form of sustainable recovery, but at the same time, I do not believe that things will get much worse from here.
STILL WATCHING THE PAINT DRY – Moving on, watching USD/JPY has been the equivalent to an exercise in watching paint dry. Perhaps it is more appropriately analogous to watching a wall of rainbow paint dry, as the price action, although directionless, has also been rather colorful. The market remains locked in a very tight consolidation, predominantly defined by the 78.00-78.50 area. However, we have seen tease rallies beyond both ends of the range, with the market failing to extend the move (both downside and upside) on each attempt.
WAITING FOR BULLISH BREAKOUT – My overall bias is highly constructive $USDJPY, and I continue to look for a break to the upside, in anticipation of a bullish acceleration all the way back towards and eventually above the 2012 highs at 84.20. Still, for this strategy to play out, we will need to see a break and daily close back above 78.80 at a minimum to encourage these prospects and expose next critical resistance at 80.60. Ultimately, only a daily close back under 77.00 would negate the core constructive outlook.