Key Market Drivers for the Coming Week: EU Creditors to Face Irish Day of Rage

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Includes: AUNZ, CYB, DAX-OLD, DB, ERO, EU, EUO, FRC, FXA, FXB, FXC, FXE, FXF, FXY, GBB, JYF, JYN, SAN, UDN, ULE, UUP, YCL, YCS
by: Cliff Wachtel

Here are the likely key market movers for the coming week, and how to profit from them:

Fundamental & Technical Drivers Next Week & How To Profit

The overall array of bullish vs. bearish forces remains largely the same, so from that perspective expect continued mild rally or pullback. Differences this week include:

EU

Irish General Elections Friday February 25th

The expected outcome is a Fine Gael victory which will seat a coalition that will at some point at least threaten to renege on at least some of its bank debt obligations because there is no rational alternative under the current circumstances. Neither Germany nor anyone else has yet to show signs of offering any serious alternative.

The big question for this week is whether restructure talk or some more EU-palatable alternative will already begin to emerge in advance of the new elections.

How To Trade It

IF there are any serious reports that restructure is officially on the table, that’s will be bearish for all risk assets, especially those related to the EU. That means:

For stocks and ETF traders: Short EU stocks and indexes, and their related ETFs, for example: FXE, DAX-OLD, FRC, DB and STD. Long the related short ETFs like EUO. Also stay long the USD ETF, UUP, because the USD tends to move opposite the EUR.

For Currency Traders: Short the EURUSD and other major EUR pairs.

For Binary Option Traders: Put option on just about any risk asset, especially the above for which binary options are traded.

If, however, the EU front remains quiet:

For the past week the EURUSD trend was higher despite all the bad EUR news (the pair followed falling USD short term rates relative to those of the EUR traders, so assume more uptrend and that traders should do the opposite in the near term and go long the above instruments until we see evidence of a trend reversal lower for the EUR. Binary option traders maintain bias to calls on the EUR pairs and EU stocks and indexes until we see evidence of a trend change. Regarding that trend….

EURUSD Daily Chart Turned Bullish Friday

Note how the EURUSD broke decisively through the resistance of the 3-week old descending trend line in the chart below (click to enlarge). Again, that suggests long traders stay long the EUR pairs, FXE, and be short the USD pairs, long UDN (short USD ETF). Binary option traders stay biased to USD puts in the near term on the daily or weekly timeframe.

EURUSD DAILY CHART COURTESTY ANYOPTION.COM 25feb 20 0622

UK

Wednesday UK MPC Minutes: After growing speculation that the UK will raise rates sooner than expected, the next major clues are likely to come via this when we see if there is enough hawkish sentiment to override BoE Governor King. For the full story see: GBP Pounding Higher Why, What Could Keep It Up, And Ways to Play It: February 21-25 Preview. The outcome could have significance beyond the GBP currency pairs.

Our estimate: Remember that the UK suffered a contraction in Q4 2010 and a second consecutive GDP drop puts them into a new recession. Because the new austerity measure won’t really begin to be felt until April-May, the MPC will err on the side of caution and there will be no rate hikes until the bearish effects of these cuts are more fully understood. When in doubt, elected politicians will risk inflation over deepening unemployment and a new recession as the lesser political danger.

We suspect the odds favor some near term disappointment and thus a GBP pullback unless the other UK events mentioned below or overall risk appetite spur new optimism and keep rate hike hopes elevated.

How To Trade It

As noted in here the short term trend remains up, though in the very short term, markets could turn cautious as we approach the actual MPC minutes. As noted in the article that means we stay bullish on the GBP and thus:

For Currency Traders: That lends an upward bias over the coming days to the GBPUSD, GBPJPY, and a bearish one to the EURGBP

For ETF Traders: Long Bullish GBP ETFs: FXB, GBB.

Long Related Short ETFs of the pound’s primary currency pair counterparts: Like those of the USD, EUR, and JPY, specifically:

  • USD: UDN
  • EUR: EUO
  • JPY: YCS

Short the Related Bullish ETFs of the pound’s primary currency pair counterparts:

Binary Option Traders: Bias to calls on the GBPUSD, puts on the EURGBP for the one day time frame

NB: As noted above we suspect the UK will try to ease down rate hike hopes as we move into the weak. If so, the opposite may well apply regarding the GBP and related assets as we move past Tuesday

Economic Calendar Events

The coming week brings a typical end of month calendar that lacks many potentially market-moving events. The ones that might actually matter are those that feed into the bigger themes in play.

These themes and their related events (that weren’t already mentioned above) include:

UK

Rising Expectations For Rate Increase: The MPC decides when rates rise, and the MPC meeting minutes will provide the best gauge of its position on the matter. Tuesday’s Public Sector Borrowing, Thursday’s housing data, and Friday’s revised UK Q4 GDP and a speech by BoE Governor King may also influence rate speculation. Anything pro-rate hike or inflation means the above long GBP trades hold, the opposite means flip over to the short plays noted above

EU

Recovery And EUR Rate Increase Expectations: The German Ifo sentiment report is the only really top tier EU event, though we doubt even that will have much impact. With little change in growth or risk appetite in the past weeks, the EURUSD’s gains are best explained by the relative decline in rate hike expectations of the USD relative to the EUR. For a great graphic presentation of this see John Kicklighter’s video weekly wrap up here.

EU Handling PIIGS Debt Crisis: Thus far, markets continue to give the EU the benefit of the doubt, so barring a specific eruption of really bad news markets appear ready to assume ignore the gathering clouds over the EU as noted above. We disagree, but in the short term we trade according to market sentiment until we have we see a trend change. Barring bad news that means our short term bias remains long for EU and EUR related assets and short the USD and its related assets. Longer term we are bearish on the EUR but we don’t trade that way until we see some evidence of the EURUSD heading lower.

General Risk Appetite & Growth Expectations

Besides those mentioned, the following might matter if they help feed the prevailing trend, which is likely to remain ‘risk-on’ barring some very bad news and a significant selloff Monday. If they contradict the prevailing trend they are likely to be pushed aside like other bearish news by the above mentioned bullish forces, as has been the case for weeks. Related events include:

US

Tuesday CB consumer confidence, Wednesday existing home sales, Thursday new home sales, core durable goods, weekly jobless claims, Friday preliminary GDP Q1 2011

Australia

Tuesday RBA Gov. Stevens speaks, Thursday private capital expenditure

Technical Factors To Watch Next Week

To assess overall risk appetite we usually start with charts of the most liquid markets, like the S&P 500 (NYSEARCA:SPY)

Conclusion

We continue to lack faith in this rally, but we follow the trends, not our personal beliefs, and that trend remains steadily higher for stocks, risk currencies, and commodities, though as noted above there is plenty of evidence that we should see some kind of short term reversal in risk assets soon. A longer term reversal lower will require more new fundamentals that undermine current rosy assumptions about global recovery, the EU crisis, or interest rate expectations.

DISCLOSURE & DISCLAIMER: AUTHOR SHORT THE EUR FOR PERSONAL PORTFOLIO. THE ABOVE IS FOR INFORMATIONAL PURPOSES ONLY AND NOT TO BE CONSTRUED AS SPECIFIC TRADING ADVICE. RESPONSIBILITY FOR TRADE DECISIONS IS SOLELY WITH THE READER.