From the desk of Steven Strazza @Sstrazza and Ian Culley @IanCulley
In recent weeks, the market has taken a risk-off tone as dollar-denominated risk assets have come under increasing pressure.
Major US stock indexes have pulled back, and procyclical commodities such as crude oil and copper continue to chop around beneath overhead supply.
Interestingly, we haven’t seen much of a bid in defensive assets through the recent bout of downside volatility. US treasuries have been relatively quiet, and the dollar remains below its August highs. Meanwhile, bond-proxy sectors like Utilities and Staples continue to make new relative lows.
None of this suggests the kind of defensive positioning that would be typical in an environment where risk assets are getting hit.
But what about one of the most significant safe-haven assets of all... the Yen?
Let’s take a look at how the Japanese Yen is setting up against other major currencies right now and what it could mean for the market at large.
First up is the GBP/JPY cross:
The Pound looks vulnerable against the Yen, forming a six-month topping pattern above a support level near 148.500. GBP breaking to new 6-month lows versus JPY would be a sign of risk-averse behavior.
To be clear, we haven’t seen it yet...but it’s close.
If we want to take advantage of a potential flight to safety, we can sell GBP/JPY on weakness below the March lows near 148.500 with a measured downside target of 141.000 over the next 2-4 months.
But we can only be short below those former March lows.
Remember, forex markets can move quickly. So we want to have our resting stop orders in place, especially given the volatility that could accompany this trade.
As always, we don’t chase breakouts, and waiting for confirmation on the daily close might leave us empty-handed.
The Pound isn’t the only major currency that looks poised to lose ground against the Yen. The Euro is also on the brink of collapsing lower from a similar topping pattern.
Here’s a chart of the EUR/JPY pair:
We have a well-defined support level that dates back to the March lows, which is when we began to see this distribution pattern play out.
Like the Pound, we can get short the Euro here, but only on further weakness.
We want to sell the EUR/JPY on a break below 127.950 with a downside objective of 122.000 and a timeframe of 2-4 months.
Again, like the GBP/JPY trade, order entry and risk management are critical.
Finally, let’s take a look at Japanese Yen futures:
Usually, we view the forex cross with the USD in the numerator. But by looking at futures, we get a clearer picture of the Yen as the dollar is now in the denominator.
Though it’s not necessarily a trading opportunity as our risk is not clearly defined, it’s important to note that the Yen appears to be building up energy in a tight consolidation.
This definitely looks like accumulation and the makings of a rounding bottom reversal to me.
We’ll be keeping a close eye on the August high of .92 as a strong close above that level could kick start a rally.
And what does the market environment look like if all these charts break in favor of the Yen?
For starters, the US dollar index probably breaks out above 94, and the 10-year yield is likely to remain stuck below 1.4%. Stocks and commodities are also likely to come under further pressure.
Long story short, investors will probably want to have their defense on the field if all this is happening.
And the trade setups above are a great way to take on a more defensive posture under this scenario.
On the flip side, we’re getting information if these support levels hold in the GBP/JPY and EUR/JPY pairs, too!
Seeing these groups dig in at their former lows and hold these key levels would be a point for the bulls.
So even if we’re not trading these forex markets, how these currencies react here will provide insight into how investors are positioning themselves in response to the recent volatility.
We hope you enjoyed this post!
Thanks for reading. As always, please let us know what you think.
And be sure to download this week’s Currency Report!
Premium Members can check out this week’s Currency Report below.
