Looking Past Bernanke's Testimony For A Forex Trade

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Includes: FXB, FXY
by: Ralph Shell

Much of the news cycle has focused on comments by Fed Chairman Bernanke. For equities, the Fed's activities are of prime importance. Bad news is regarded as good news since a postponed recovery means Bernanke will continue to expand the money supply. This is regarded as bullish by the equities and commodity crowd and is usually bearish for the USD.

This is straight forward enough, but a problem occurs when different analysts hear the Chairman saying different things. One might think that Bernanke has said there is sufficient recovery, and some tapering of the asset purchases will commence as soon as September 2013. Others, however, will insist Bernanke is going to wait for more data before the monetary contraction will begin.

Often the data are mixed, and we had an example today. The initial US Initial Jobless Claims number was down to 334K, less than expected and less than the previous week's 360K. This got the attention of the bond boys betting on the early taper, and sent equities flying into new high ground. Followed by the US Philadelphia Fed Bus.Outlook Index, recorded at 19.8 well above the expected 8 and last week's 12.5, the market continued its rally.

Numbers like these give us a glimpse of what has transpired. Important yes, but what are the factors that give us hints where the economy is headed? There was an obscure section of the retail sales report issued this week that showed:

"Food-service sales fell 1.2% in June, the largest decline since February 2008 and the year-over-year change in "eating out" rose by just 3.1% - the lowest annual increase since June 2010."

Also note the price of crude traded above 108 a barrel today. The price of gas will soon follow. This may not be a major issue for East Coast residents, but for those in the rest of the US who travel many miles, the economy will suffer resulting in bearish news down the road.

Perhaps analyst and traders alike hear what they want to hear. Different positions might explain why there are different reactions to Bernanke's testimony.

While the crowd is waiting for the latest pronouncements from the Fed Chairman, there is some other news. Most of it regarding the British economy has been constructive. The Bank of England's MPC notes were released from Mark Carney's first meeting. There was agreement - no additional QE. UK unemployment unexpectedly fell by 21.2K, and UK Retail sales were positive. But what do you sell against the pound?

Perhaps you can take a look at the yen for the short leg of the trade. There is a scheduled election on the 21st of July. Polls show that Abe's Liberal Democratic Party is in a position to pick enough of the 120 open seats to achieve a majority in the House of Councillors. Should he attain a majority, the market may view this as approval of economic policies among which is a massive increase in the yen supply.

Looking at the chart of the GBPJPY, (FXY, FXB) this pair is not for the faint of heart. Moves of 500 to 800 pips are commonplace. So far in July, there has been a move from 149 to 153, and the market acts like it is getting ready to challenge the 156 handle. Should the 156 level be conquered, the monthly chart shows a lot of open space. In August of 2007, the pound was worth 250 Yen.

Looking at the last COT report, specs have been big shorts in both the pound and the yen. Recent market action since the report has punished the pound short, and helped the yen players. Naturally there is a lot of risk with this trade but the potential is great, so you need to watch your money closely.

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Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.