The Daily Edge is authored by Ivan Delgado, 10y Forex Trader veteran & Market Insights Commentator at Global Prime. Feel free to follow Ivan on Twitter & Youtube weekly show. You can also subscribe to the mailing list to receive Ivan’s Daily wrap. The purpose of this content is to provide an assessment of the conditions, taking an in-depth look of market dynamics – fundamentals and technicals – determine daily biases and assist one’s trading decisions.
The Daily Digest is authored by Ivan Delgado, Head of Market Research at Global Prime. The purpose of this content is to provide an assessment of the market conditions for the next 24h of trading, factoring in fundamentals, technicals, inter-market and options, in order to assist one’s decisions on a regular basis. Feel free to follow me on Twitter.
The ECB meeting is out of the way. We’ve gained further clarity on several fronts. Arguably, the most critical is that Draghi has logically caved in by downgrading both growth and inflation, even if transitory effects are still the culprits behind the CB reasoning, hence, keeping the Euro downside limited.
Also, Draghi may potentially be setting up the stage for a push further out on forward-guidance, based on the wording used in his press conference, especially when he mentioned that ‘the balance of risks is moving to the downside’. Does that mean no rate hikes til Q4 2019? We shall see based on…
… the word of the day, “DATA DEPENDENCY”!
… and the one I’ve picked for today’s title as it does embody the lay of the land like no other in the low vol FX market. We are going through a ‘cul-de-sac’ road with the majority of central banks in standby mode, awaiting fresh signals via economic indicators. However, is not only the ECB, but the rest of Central Banks are also, too, keeping all the options on the table. Wherever you look at, it’s the same picture (ECB, Fed, BoE, BoC, BoJ, RBA, RBNZ…), they are all awaiting further data to determine the next moves in policy.
I like how Carsten Brzeski, Chief Economist at ING Germany puts it in his latest thoughts, noting that “the ECB has stopped the autopilot and has retued to monetary policy by sight.” Hopefully, and judging by the significant increase in 1-week impl vol (read options section), the market is now betting that next week’s FOMC will be a lively event, even if it just means short spurs of volatility but with potential substance to threaten the confined late ’18 ranges in G4 FX vs USD. The Fed, as the yield curve stands, is arguably the Central Bank facing the highest stakes to properly communicate its forward guidance heading into 2019. Dot plot projections will be key.
Back to where it matters, which is today’s key takeaways from scanning the markets. By now, I’ve probably reiterated enough times my overall bullish stance on buying cheap EUR/USD. If not, check out my latest ruinations through yesterday’s YT video, where I touch on all the aspects.
After the ECB, my view has not been swayed in the slightest. I continue to stay away from trading GBP, and this is a stance with no expiry date in sight judging by the Brexit mess. The Yen should find its lowest point around the 114.00 resistance based on macro valuation, 25d RRs + ahead of the FOMC. The Aussie is also trapped in a range, portraying as no other the lack of FX vol, even if we were given a treat last week, after the severe supply imbalances that ended up with a bearish outside week as RBA rate cut calls mount.
As part of my risk-model, I still don’t see signs of risk aversion retuing. I am getting no cues either through the last 24h changes in global yield curves, junk bonds or the options market. As per my trades currently open, I continue to hold longs CAD, USD vs JPY. Monitoring shorts EUR/JPY too.
And… today’s tweet shoutout + quote of the day goes to Anthony Crudele, a Futures Trader, Investor, and Host of the Podcast Futures Radio. I just love when traders such as Anthony go the extra mile spreading value to help other fellow practitioners in the industry. That’s also camaraderie, and not just the pinned tweet on Anthony’s feed, a must watch to shed some tears…
On Thursday, the risk-weighted index was underpinned by a further drop in US bonds, as depicted below by the US 30-yr bond as a bellwether. Note, the pullback obeys my bearish stance in US bonds short-term, as noted in my previous report. The minor changes in the DXY and the SP500, both treading water, led to the compressive nature of the RWI range.
Let’s now start to take cues out of risk-sensitive assets to understand the balance of risk. Junk bonds have ticked up ever so slightly, while the market is still paying up expensive vol via the VIX at 20.65. Looking at global yield curves, the tendencies continue to be towards a steepening relief rally, as reflected by the German, US or Japanese curves in the chart above. This should give us a positive jump start for risk conditions to extend into Friday, as it communicates the market is betting on an improved outlook for growth and inflation or else we’d see the curve flattening.
The impression that I get from the get-go when breaking down the assets that make up the risk-weighted index is that trading interest, as reflected by the tepid ranges, is low. The DXY is stuck in the midpoint of its daily range. The S&P 500 continues to make attempts to the upside yet lack of convictions keeps resulting in late day pullbacks with topside tails on the daily. The US 30-yr bond has come down lower in the last 4 days, but the volume is just paltry, which suggests most of the run we are seeing is led by a removal of liquidity ahead of next week’s crucial FOMC meeting.
Overall, my view is that the supportive risk conditions, underpinned by a more constructive stance in the US-Sino relationship, may continue to extend into the Friday. This week’s trend in risk has clearly been to the upside, and with no price action evidence to change my opinion, I believe that the path of least resistance short term continues to be to the upside. The low vol seen in the last 24h is positive for risk, as it’s the fact that yield curves remain on a short-term steepening phase.
On the basis of higher yield spreads between Germany/US and Germany/Italy, my line of thinking to endorse long Euros on weakness can only be strengthened. Overall, the ECB meeting has represented no major changes in the outlook for the Euro judging by where yields trade at. If we look at the daily chart, the pair ended marginally lower on Thursday, but with valuations moving higher, and weaker expectations for US retail sales heading into Friday, the case to engage in buying weakness is there.
Notice, for the last 3 weeks, the pair has been incapable of closing beyond its 1.13–14 range, which tells you all you need to know about the indecision to unravel the current puzzle. After this period of compression, it’s my view that the market will eventually break higher, barring an FOMC shocker.
The three-hourly liquidity areas drawn below is where I’d expect today’s buying to pay off the highest retus for the likes of Euro buyers. In this hourly chart, as represented via black lines, the conditions have now tued into a range-bound market following the double rejection off 1.1390 and the retest of the midpoint from the last previous swing low. Remember, any breakout of 1.13 should be an extra bonus to play long the pair.
The Sterling is heading back to retest a level of key support tued resistance amid a tapering of volume, which makes the prospects of further rises doubtful at best. By the close of business in New York, the UK vs US 5-yr yield spread has recovered further while the DXY relative strength is an element that caps further upside as solid demand for Dollars still expected overall. In the hourly, we can clearly see how the pair has entered a new period of higher consolidation between 1.262080. Note, any topside breakout may see a head fake as a huge supply imbalance exist overhead. On the downside, it appears as though the void area is clearer if we were to see a 2620 resolution.
The near-term bullish view in the pair continues to materialize, with solid demand found in yesterday’s Asian pullback as risk appetite remained underpinned. For now, the pair continues to be driven by micro technical forces, up to the next major target at 114.00, where the disparity in macro valuations between the pricing of the pair and its bond yield spread/risk-weighted index, should put a cap to the rally. Note, in the hourly we’ve completed 3 legs up, which is a stage where the risks of a reversal in the intraday trend certainly increase. Besides, with lower expectations for today’s US retail sales, makes you wonder how much further upside exists up to the release of the event. A key determiner will also be the mood in risk, which in my view, should remain anchored, hence probably keeping the pair within familiar ranges. If one factors in that today is Friday, which tends to be a thinner day in terms of volumes, the case for a low key affair may ensue.
It’s certainly been a low key affair trading the Aussie this week, with volatility largely suppressed as traders must contend to trade a paltry range of 0.7180–0.7240. In the last 24h, with risk appetite upticking, the pressure had to be exerted to the topside of the range, and that’s what we saw, although the failure to find acceptance above puts into question the buy-side conviction. For now, it’s not all lost for buyers, which continue to make higher highs and higher lows on the hourly, while the pair continues to trade above the range’s midpoint of 7210. That said, the failure to break higher is worrisome and may shift the focus back to the downside if 7120 gives.
A very soggy activity in forex options, with the only two currencies to highlight the European ones. The Euro adjustments in options positioning were tweaked slightly bullish, judging by the increase in ‘in the money’ calls, which came combined with a nearly 2:1 jump in ‘out of the money’ puts.
In the British Pound, what I denote is a much interest to transact OTM puts at the 1.25 strike, suggesting that the market might perceive the level as an increasingly appealing downside protection in light of the options the UK is left in the Brexit saga, which includes pulling the Article 50 to remain in the EU, a potential second referendum (these first 2 options Pound positive) or a hard Brexit (Pound negative).
*It is common practice by institutions to use OM Calls or Puts for hedging purposes, as the cost of buying Calls or Puts out of the money are way cheaper than IM Calls/Puts (it acts as an ‘insurance’ against their desired direction). If we see strong activity in OM Calls, that generally means the market is looking to go directionally short and are using these cheap calls out of the money (at a higher level than current prices) as protection should the underlying asset class tu against their favored directional bias (short). On the contrary, if we see strong IM Calls activity, that means institutions are in a hurry to buy the asset for what they perceive could be a directional move brewing.
Find below today’s 1W implied vs historical volatility ratios. What’s interesting about today’s stats is that option players must already account for the volatility out of next week’s key FOMC. I’ve selected with a red arrow the market where we are finding the greatest imbalance between imp/hist. In a nutshell, these are the markets most exposed to suffer breakout of key levels, either up/down, as the market is going to be heading into the event short vega (vol), making them increasingly slippy.
* If implied vol is below historical vol, represented by a ratio < 1% in the table above, the market tends to seek equilibrium by being long vega (volatility) via the buying of options. This is when gamma scalping is most present to keep positions delta neutral, which tends to result in markets more trappy/rotational. On the contrary, if implied vol is above historical vol, represented by a ratio > 1%, we are faced with a market that carries more unlimited risks given the increased activity to sell expensive volatility (puts), hence why it tends to result in a more directional market profile when breaks occur. The sellers of puts must hedge their risk by selling on bearish breakouts and vice versa.
As I made abundantly clear, I am a looking to be a buyer of Euro vs US Dollar on weakness. I am also holding a long position on CAD/JPY with the reasoning behind my trade found here. Besides, I’ve been rising an intraday long on USD/JPY off 113.17, in expectations of a rotation higher.
Before you ask, the answer is yes, I am happy trading counter to my macro views, and the USD/JPY is a clear example of that, where I hold a firm macro view, but I also recognize the short-term bullish opportunity. Especially after the massive bullish outside day on Monday, which suggested the market had made up its mind to reject lower levels, which has been backed up by the pick up in risk ever since. A market seeking higher liquidity pockets was my expectation. Both yen shorts now risk free.
I am also paying attention to topside failures in EUR/JPY in line with lower yield spreads and a risk environment far from promoting large breakouts in risk. I can’t find any other trades on the radar after scanning through the charts, so won’t force-fit it, especially on this narrow FX vol context.
Morgan Stanley provides a great visual representation of the split they expect at the helm of the BoE when they meet next week amid the Brexit uncertainty. According to the European Economics Tea, with elevated uncertainty over Brexit and an endgame slowdown, a unanimous hold is a no-brainer.
In line with my confessed bullish view on the EUR/USD, find below the take by Brent Donnelly, Spot FX Trader at HSBC, who outlines the divergence between EUR/USD and the Italian premium as a key factor that should provide support to the shared currency. I’d personally make the case that France has now become the new Italy with its yield spread ballooning vs the German one. Overall, glad to see others are picking up on the current value disparities in this market macro wise.
Carsten Brzeski, Chief Economist ING Germany, shares his views, making the analogy that ECB’s President Draghi, with the end of net quantitative easing by year-end, also ends him being in autopilot mode. “Now the central bank is fully back to being data dependent”, Carsten notes.
Anthony Crudele is a Futures Trader, Investor, and Host of the Podcast Futures Radio. Anthony interviews traders from all walks of life. A trader dedicated to sharing valuable insights via interviews with other phenomenal traders. As I mention in today’s summary, that’s also camaraderie, and not just the pinned tweet on his feed, which is a must-watch.
“As a trader, I’ve leaed that I not only needed an edge in my strategy, but I needed an edge about myself. Many solely work on their strategy edge while they lack working on their personal edge. To me being a trader is more than just focusing on the technicals or fundamentals”
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