EUR/USD Weekly Outlook: What's Driving The Current Trading Range, What Will Break It

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 |  Includes: FXE, UDN, UUP
by: Cliff Wachtel

Summary

Technical Outlook: Remains within 1.35-7 trading range, any breaches of the 1.35 area likely just temporary as long as the fundamentals that have supported the EURUSD hold. Bearish directional bias.

Fundamental Outlook: Neutral near term, bearish longer term, and what could change this outlook.

Trader Positioning: Pros steady, small retail traders shift strongly to the long site.

Conclusions: What’s preserving the current likely trading range and what to monitor to anticipate the eventual breakout.

FX Traders' weekly EURUSD fundamental & technical picture, this week's market drivers that could change it- the bullish, the bearish and likely EURUSD direction.

Technical Outlook

Summary

Short Term Technical Outlook: Neutral, as downward momentum clashes with strong support at 1.3500. That level is likely to break, see below for whether it's likely to happen this week.

Medium & Long Term Technical Outlook: Bearish - all momentum indicators on weekly charts suggest more downside in the coming months.

First we look at overall risk appetite as portrayed by our sample of global indexes, because the EURUSD usually tracks these fairly well, particularly the leading US and European indexes. The main exception to this rule comes when either the Fed or ECB is expected to make a policy change in the near future, because changing interest rate expectations are more influential than overall risk appetite trends.

Overall Risk Appetite Per Weekly Charts Of Leading Global Stock Indexes

Click to enlarge

Weekly Charts Of Large Cap Global Indexes March 31 2013 To Present, With 10 Week/200 Day EMA In Red: LEFT COLUMN TOP TO BOTTOM: S&P 500, DJ 30, FTSE 100, MIDDLE: CAC 40, DJ EUR 50, DAX 30, RIGHT: HANG SENG, MSCI TAIWAN, NIKKEI 225

Key For S&P 500, DJ EUR 50, Nikkei 225 Weekly Chart: 10 Week EMA Dark Blue, 20 WEEK EMA Yellow, 50 WEEK EMA Red, 100 WEEK EMA Light Blue, 200 WEEK EMA Violet, DOUBLE BOLLINGER BANDS: Normal 2 Standard Deviations Green, 1 Standard Deviation Orange.

Source: MetaQuotes Software Corp, www.fxempire.com, www.thesensibleguidetoforex.com

Key Take-Aways Weekly Chart

The short version: The overall risk appetite picture is mixed and thus doesn't offer any obvious support or hindrance to the EURUSD.

· Short term risk appetite per the US and EU indexes is mixed. In recent weeks US indexes have been flat to higher, while European indexes have been trending lower.

· The same holds for the intermediate term (past 4 weeks).

EURUSD Weekly Technical Outlook

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EURUSD Weekly Chart to Present June 10. 2012 To Week Ending July 18, 2014

KEY: 10 Week EMA Dark Blue, 20 WEEK EMA Yellow, 50 WEEK EMA Red, 100 WEEK EMA Light Blue, 200 WEEK EMA Violet, DOUBLE BOLLINGER BANDS: Normal 2 Standard Deviations Green, 1 Standard Deviation Orange. Green downtrend line from EURUSD peak of July 2008 to present, green uptrend line from August 2012 to present. White Fibonacci retracement lines for downtrend of August 2008 To June 2010, yellow Fibonacci retracement lines for downtrend of May 2011 To July 2011.

Source: MetaQuotes Software Corp, www.fxempire.com, www.thesensibleguidetoforex.com

Key Take-Aways Weekly EURUSD Chart: Bearish Momentum Versus Strong Support

The medium term EURUSD prognosis continues to deteriorate.

Momentum Becoming More Negative

--Until May the pair had been in a steady uptrend since August 2012. The current downtrend that began in mid-May is the longest counter move to that uptrend.

--Since the start of the August 2012 uptrend the pair never dipped below its uptrend line or into the double Bollinger® band (NYSEARCA:DBB) sell zone more than two weeks. On Friday the pair marked its 6th straight week below that uptrend line AND in the DBB sell zone. Each close in the sell zone implies more downside ahead

--All but the 100 and 200 week EMAs are now trending lower, with the 10 week EMA (NASDAQ:BLUE) already having crossed below the 20 week EMA (yellow), reflecting accelerating longer term downside momentum

Support And Resistance

--Two big Fibonacci support levels have been breached but we'll need another 1-2 weeks below them before calling them officially broken

--The big 1.3500 round number support level continues to hold as it has for the past 6 weeks but it was tested this week for the third time in the past 6 weeks.

Weekly Technical Outlook Conclusion: Bias, Likely Trading Range, Direction For This Week

That said, the pair has been range-bound for the past 7 weeks, so we'll likely need some additional fundamental negative to drive the pair below 1.3500, although the deteriorating momentum suggests that a decisive break below 1.3500 is a matter of when, not if.

Meanwhile, any rallies should be capped around the 1.365-1.367 area, given the multiple layers of resistance in that zone, which include:

--The 1.365 level, which has been tested and held as resistance every week for the past 9 weeks

--The mid-2012 uptrend line, which has held for the past 11 weeks, with only very temporary breaches.

Our technical outlook for the coming week and weeks beyond remains bearish, given that the pair remains deeply in its double Bollinger® band sell zone.

Conclusion: Our technical outlook suggests the EURUSD remains with its 1.35-7 trading range, with any breaches of the 1.35 area likely just temporary as long as the above fundamental supports hold. Our directional bias remains bearish. Summer vacation season is a constant damper on volatility that reinforces the current trading range.

EURUSD Daily Technical Outlook

The daily chart sends the same message, so no further commentary needed.

Fundamental Outlook: Key Drivers Prior And Coming Week

The pair's major moves for the week came in two roughly equal declines Tuesday and Wednesday, after that the pair was virtually unchanged over the final two days of the week.

Likely Drivers Prior Week

What were the fundamental drivers behind these moves?

Tuesday

· German, EU ZEW surveys below forecast

· Continued concerns over Portugal's Banco Espirito Santo's solvency

· Fed Chair Janet Yellen's congressional testimony made headlines, but we doubt it had any material effect on the EURUSD. On the one hand, stocks fell in its aftermath in response to her comments about tech stocks being overvalued, (the decline came despite her stock market friendly, downbeat view on jobs and housing, which suggest that no material interest rate increases are planned for the foreseeable future). That stock market drop implies she hurt risk appetite and thus the EURUSD. On the other hand, her implied message of continued low benchmark USD interest rates was supportive for the pair.

Thus we conclude that the ZEW and Portugal news were the dominant drivers of the Tuesday decline.

Wednesday

In contrast to Tuesday's action, there was no obvious fundamental driver of Wednesday's drop.

It was a good day overall for US and European stocks, so risk appetite was actually supportive and thus wasn't a factor in the decline.

Nor can we point to the leading European or US economic reports of the day, which were more negative for the USD than the EUR.

The most reasonable explanation appears to be more technical than fundamental. Specifically, we'd point to traders' temptation to test the near term support of the two Fibonacci retracement levels shown above. The breach at around 1.355 opened the way for a test of the 1.3530 level that had capped prior June selloffs. Once again this level held as support, but only to be breached Thursday and then again Friday. A close on Friday below that level would likely confirm 1.3530's conversion from support to resistance, and open the door for a test of the big 1.3500 level.

Of course, the pair remained within the 1.362 - 1.352 range all week, so any talk of 'big moves' remains very relative. However for future reference it's worth noting the week's biggest market movers.

Coming Week's EURUSD Drivers: Key Fundamentals, Events To Monitor

A very brief break below 1.35 got markets and pundits talking about whether this breach was a prelude to a sustained move below this support level.

Barring some very EURUSD-bullish news, we'd expect at least a further test of the 1.35 support area this week. Will this it hold?

In the short term it probably will, both from a technical and fundamental perspective.

Here's why we don't think a sustained move below it is coming in the near term and that any breakout below it will be a false breakout.

From a technical perspective, it's resisted repeated tests, and that track record deserves respect. Remember that over the past eight months, it has been repeatedly tested, but the only breach to last more than a few days came in the wake of a surprise ECB rate cut in November 2013, which only lasted about two weeks. The ECB's June easing only brought a few days' breach.

In sum, technically speaking, it's going to take more than a random technically driven breach to sustain a longer term move below 1.35. Friday's breach can be brushed off as a temporary technical move.

From a fundamental perspective, as long as the same fundamentals that have propped up the EUR since mid-2012 remain in place, a sustained break that converts this level from support to resistance is unlikely. These include:

1. --A global drive to diversify away from the USD, with the EUR being the preferred destination due to its similar liquidity.

2. --A belief that the EUR will survive future existential threats despite the EU's profoundly flawed currency union and continued lack of political union needed to match its economic union (we and many others believe it is ultimately doomed in its current form)

3. --The EZ's current account surplus

4. --The essentially unchanged gap between US and EU yields in recent years. While the USD is expected to see higher benchmark rates before the EUR, the Fed has repeatedly indicated that any material rate hikes remain in the distant future (although a largely symbolic annual 25 bps hike could well happen just to keep speculation from running wild and maintain a pretense of Fed desire to normalize rates. Granted, in the near term, we expect the benchmark 10 year rate, currently below 2.5%, to bounce back to around 2.56%, and thus put modest pressure on the pair.

5. Lack of one or more risk-off events sufficient to produce a sustained period of risk aversion

What Will Bring The Next Break Below 1.3500 And The Next Sustained EURUSD Downtrend?

A sustained break below 1.3500 is unlikely until one or more of the above 5 supportive fundamentals disappears. Not even the end of QE necessarily means rate hikes are coming per the Fed's repeated indications.

Conversely, any material strengthening of these fundamental supports could boost the EURUSD to the upper end of its recent range around 1.37, although there's little indication of that happening.

At most we could see a temporary breach this week if we get some combination of US inflation readings that beat expectations (i.e. are higher than forecasted) and lower than expected euro area flash PMIs. In that case, we could even get a test of the next support level around 1.34.

Beyond monitoring the above fundamental supports for the EURUSD, the other possible drivers from the pair will come from this week's events, both scheduled economic calendar events and possible surprises from geopolitical tensions.

For now markets remain convinced that neither events in Ukraine or Gaza will materially influence the pair, although the shooting down of the Malaysian Airliner over Ukraine was THE event of the week for stocks, its bearish effects were temporary.

Top Calendar Events To Watch

Tuesday

US CPI, HPI. Existing home sales may be a factor too if it packs a material surprise to the upside, as recent housing data has been poor, so another weak or in line report won't change market perceptions on US housing. A big upside surprise in inflation data could be the big news of the week because it could reignite rate hike speculation and drive the USD higher and the EURUSD lower for a sustained break below 1.35. This is likely the biggest EURUSD event risk of the week. EU PMIs are important but no one expects them to be good enough to change perceptions on ECB policy. In contrast, Fed rate expectations are bit more sensitive given that USD rate increases are only a question of when, not if. That said, few expect anything more than a very gradual increase over many years, but a big inflation surprise could still ignite some short term speculative spike in rates. We doubt it would do more than that, as markets will remember that Janet Yellen believes inflation data to be "noisy" and thus not influential with the Fed in the short term.

Thursday

· China: HSBC flash manufacturing (MFG) PMI. Focuses on smaller non-state owned firms, and seen as a bit more reliable than the government data. Important because like data from the US and EU, China data influences overall risk appetite more than that of most other economies, as a barometer of the health of a key global economy.

· EU: Flash manufacturing and service PMIs from France, Germany, and the EU overall, these will be the latest read of the EU economy. Spain unemployment and Italian retail sales may matter if they provide a substantial surprise up or down.

· US: Flash mfg PMI. New home sales may matter if they provide a big upside surprise to counteract recent weak housing reports, Weekly new unemployment claims may be influential if they materially influence the 4 week moving average of weekly claims, as the Fed is correctly focusing on longer term trends rather than weekly data.

Friday

· EU: German Ifo sentiment survey, Gfk German consumer climate

· US: Durable goods

Sample Retail Traders Positioning

Latest (from last Tuesday) COT surveys show only minor changes in EURUSD trader positioning.

In contrast, Forex Factory's real time sample of retail traders shows a sharp swing to the long side, as they appear to be anticipating a bounce off the 1.35 support level.

Source: forexfactory.com

Conclusions

As long as the above mentioned key fundamentals driving the EURUSD remain largely unchanged, the pair remains locked in its 1.35-7 range in the near term, with any breaches of support around 1.35 likely to be temporary until one or more of those fundamental supports weaken.

Longer term anticipated rate advantage for the EURUSD continues to suggest the USD is basing and that the EURUSD's long term downtrend remains intact.

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DISCLOSURE /DISCLAIMER: THE ABOVE IS FOR INFORMATIONAL PURPOSES ONLY, RESPONSIBILITY FOR ALL TRADING OR INVESTING DECISIONS LIES SOLELY WITH THE READER.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it. The author has no business relationship with any company whose stock is mentioned in this article.