The US Dollar has been falling in correlation with the dovish theme. Massive Fed easing, falling real-yields coupled with huge supply injections via SWAPs to prevent the US Dollar from strengthening back in March. Since then, the Fed undertook another dovish move, namely, the implementation of Average Inflation Targets (AIT), which aims to allow inflation to rise above the Feds target of two percent for a period of time, in order to average two percent inflation over the medium term. To achieve this, interest rates would have to remain at the Effective Lower Bound (ELB) for an even longer duration, as the Fed would normally begin increasing rates as inflation approaches two percent. The "lower for longer" commitment from the Fed, should help to keep the dovish theme in play, and the US Dollar on the back foot. I would expect US Dollar rally's to be brief and short-lived for time being, even though positioning is extremely stretched across the dovish trend.
Euro, on the other hand, is relatively strong against its major peers due to the EU recovery fund, which is a major structural change for the bloc, enabling the Euro Area to raise capital jointly via Eurobonds on the global stage, which greatly increases credit ratings across the Euro Area. The interest rates for these bonds will be dramatically lower, allowing the bloc to raise larger sums of money to invest, greatly benefiting countries such as Italy, Spain, Greece, who have higher borrowing costs and are much in need of financial injections to stimulate their economies. In other words, Europe can spread out the debt load across member states. This is hugely bullish for the Euro currency.
The combination of both these factors, weaker US Dollar and stronger EUR is the reason we've seen this strong rally on the upside since mid-May. We see this trend continuing into next year, but we still must time our entry's correctly with price fluctuations. Positioning for the EURUSD is extremely stretched, and so a pullback from the 1.2000 test was predictable. The question now is... Where do the dovish dip buyers re-emerge?
Technically, 1.1700 looks like a great level of support. Corresponds with the 94.00 resistance on the US Dollar index. If, and only if, there is evidence that the bulls are buying into 1.17000 would we initiate a long position aiming for a move back up towards 1.19/ 1.20. With a stop-loss at 1.1650 that gives the trade a five to one reward to risk ratio. Daily stochastics are shallowly on oversold territory, the set up looks good.
However there is a caveat. Rarely at Amplify Trading do we ever use a single scenario, so here are a few others.
1.1700 breaks to the downside, causing nervous bulls to stop out below support, in this scenario we'd be short below 1.1700 if momentum builds on the downside. Likely down towards 1.16/1.15 where there are major levels of support. Once again, looking for any signs of bullish evidence at these levels for the trade back up towards 1.2000. If this scenario plays out, we will release a new and updated piece describing what's happening, as it happens.
For now though, will the dovish dip buyers re-emerge at the 1.1700 area?
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