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Dr. Duru, One-Twenty Two (112 clicks)
Long/short equity, event-driven, homebuilders, currencies
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When it comes to the Australian dollar (FXA), traders have to stay nimble and on their toes. Just two days ago in "Poor Employment Report Only Slows Australian Dollar's Breakout," I noted how easily the Australian dollar recovered after weaker than expected jobs numbers triggered rapid selling in the currency. I concluded that "the currency is much more likely to respond to changes in commodity prices and by extension economic conditions in China." Sure enough, proof positive came in the form of Q1 GDP growth of 7.7% in China. Industrial production also disappointed by "only" growing 8.9% in March year-over-year. As Bloomberg noted: "That compared with the 10.1 percent median forecast of 37 economists and a 9.9 percent gain in the first two months of the year."

So suddenly after two Chinese economic series, each register one new discouraging data point, China's growth (really the rate of growth) is slowing. The instant trigger reactions are understandable given the lofty heights of financial markets and the extent to which the yen has weakened for six months. Profit-taking is a natural reaction. The swift moves downward are also a handy reminder why it makes sense to manage risk by locking in profits when the trades are going well: it means there is no need to join the herd when the stampede moves against the rest of the trade.

The technical damage in the wake of the Chinese economic data is clear. The breakout for AUD/USD has ended almost as quickly as it began.

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The Australian dollar plunges in the wake of disappointing Chinese economic data

The technical damage for yen (FXY) crosses could just be getting started. Traders have rushed back into the yen for "safety" and/or to close out carry trades, creating follow-through to Friday's sudden surge of interest in going long the yen. The overall trend in yen crosses is still firmly pointing upward, but the downward momentum of the past two days appears even stronger for now. I am expecting eventual retests of upward trend lines. For the British pound against the yen, for example, that means a retest of the 20-day moving average around 147.

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The yen receives follow-through interest in the wake of disappointing Chinese economic data

Rather than trying to call a bottom to the selling in these pairs, I prefer to scale slowly back into positions while rotating in and out of hedges like short EUR/JPY, GBP/AUD, and even short GBP/USD.

One interesting backdrop to the sudden re-emergence of fear is a surge in call buying on the VIX, the volatility index. Here is how Todd Salamone in his latest "Monday Morning Outlook" on Schaeffer's Investment Research describes it {note that SPX refers to the S&P 500 (SPY)}:

… the call-buying machine on CBOE Market Volatility Index (VIX - 12.06) futures continues, with the 20-day buy-to-open call/put volume ratio soaring above 3.00 for the fifth time since January 2012…the SPX has tended to rally after such spikes, with the exception of the spike that preceded last year's September-November pullback. This particular spike occurred at the tail end of a sharp rally in the SPX, much like the current rally we are experiencing. That said, if the latest VIX call buying surge is again foreshadowing a correction, the odds are that the pullback continues after VIX options expire (which happens to be this coming Wednesday), as VIX spikes concurrent with market weakness have tended to happen after VIX expiration, when many call options expire worthless.

The implication is that once traders lose their hedges with the VIX call options, they might be more inclined to sell out of S&P 500 positions if the market is weak going into expiration. I am looking for the VIX to bounce back to the 15.2 level that has frequently served as a flipping point between bearish and bullish moves. There is certainly no rush to seize on buying opportunities until at least that retest occurs.

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As of Friday, April 12, the VIX was still dropping toward fresh 7-year lows...

Source for charts: FreeStockCharts.com

Be careful out there!

Source: Latest China GDP Figures Set Up Next Buying Opportunity

Additional disclosure: In forex I am net long the Australian dollar, net short yen, and long VXX shares, calls, and puts.