The US stock market ended lower for the second week in a row. The S&P500 closed at 2,886, -1%, the Nasdaq at 7,788, -3.2%, and the DJIA closed almost unchanged at 26,447. It is worth noting that on Friday we saw a noticeable sell off on the US bond market, with the yield on the 10y note jumping to its 7-year high, closing at 3.23%. The strong jobs report, which set the unemployment rate at 3.7% and the average hourly wages increasing by 2.8%, fuelled the sell off on the bond market on fears that such strong numbers could accelerate the inflation uptrend, forcing the Fed to raise interest rates more aggressively than expected. Rapid rate hikes are not good news for the stock market, and coupled with the trade standoff between the US and China regaining strength, this led to the negative performance that is pushing the S&P500 and the Nasdaq to test significant levels.
Here is the situation on the S&P500:
Here we see a short-term double top at 2,940 and a sharp decline below the dynamic support, which was successfully tested in intraday trading on Thursday.
The loss of momentum of the upward trend is evident and now we have the support at around 2,860, which is becoming a real trigger for a possible short trade.
This area managed to stop the sharp fall of the index on Thursday, but we believe it will be tested soon, amid the confirmation of the negative movement on the Nasdaq index which, as we saw last week, was showing signs of regaining strength. However it stopped at the area we highlighted, thus keeping our aggressive short trade alive.
After three attempts to break through the all-time highs, the index dropped:
It went down below the first horizontal support at 7,510, tested it, and continued declining towards the two short-term supports, which have managed to stop the decline so far. The real target of such movement seems to be the wide support area between 7,160 and 7,000, which is the real watershed between a market correction and a deeper decline.
The bearish pressure could also be fueled by the situation on the European stock markets, which are suffering on the continuing standoff between the EU officials and the representatives of the new Italian government, which has reached warring levels. EU officials have released negative remarks on the budget announced by the Italian government, which seeks to expand the spending deficit to 2.3%, and demanded, in a letter sent to the Italian government by the European commissioners Moscovici (economic affairs) and Oettinger (budget), a revision of the budget before the deadline of the 15th of October.
The tone of the debate escalated rapidly, with the President of the EU Commission Jean-Claude Junker openly criticising the Italian government, preconizing a Greece-like situation for Italy and even the possible end of the euro.
Not what one would expect from one of the most prominent EU officials in such a delicate situation. One thing is for sure: the Eurozone is undergoing one of its worst crisis since its inception and the consequences of such crisis are evident in the performance of the European stock markets and on the common currency.
Besides the Italian stock market, which obviously took a heavy hit, losing more than 16% since its peak in May (and it is losing more than 2% at the time of writing), all other EU stock indexes are under pressure. Here is the German DAX:
Last week we decided to hold on to our short trade on DAX, notwithstanding the strong reaction of the index which was erasing all the profit of the trade. Well, being professional in managing our emotions and applying the proper attitude and money management paid off really well: the index dropped from 12,350, where we left it last week, to 12,000.
A 350-point drop now justifies a partial take profit of half the position, thus lowering the stop to 12,160. The bearish movement could extend further to 11,870.
Trading requires patience and self-control. Our risk was set within the limits we imposed ourselves, and keeping the risk-to-reward ratio at a reasonable level was the way to go, given the overall fundamental situation that was indicating further weakness for European stocks and for the common currency.
As for the euro, the described situation could not be anything but negative.
The short trade we described last week kept on delivering pips and was analysed in real time on our Twitter account: @AlpariRA.
What is the situation now? The euro is getting hammered against the USD, GBP, and JPY.
The possibility that the euro could at one point have serious difficulties should the situation remain tense in the Eurozone is obviously putting pressure on the common currency and, again, some declarations from the EU officials, aiming to put pressure on Italian authorities, are making the situation worse.
As for USD, the common currency kept on declining, and after some relief in the last two days of the week, it opened the week resuming its decline, trading below 1.15, and is testing the last four-day lows at 1.1465.
Should the price break through this level and 1.1440, the movement could extend to 1.13, which was tested during the Turkish lira debacle in mid-August.
Here is the chart:
Here it clearly shows the closest short-term support area: should the cross break below that level, a new short could be considered, especially if there is no relief on the political side.
Be very careful on Friday and over the weekend!!
The IMF meeting is scheduled on those days and chances are that new harsh comments on the Italian position will come from the IMF officials, which will most likely prompt an even harsher response. This could cause sizable gaps at market open on Sunday the 14th.
Therefore, consider your exposure wisely on euro related pairs!
One last note on Brent oil:
After climbing as much as 86 USD per barrel, prices began a sharp correction on a possible softer stance by the US in relation to Iran oil and the reassurance coming from Saudi Arabia that it would intervene to cover every supply shortfall.
The price is now about to test the dynamic support and might bounce off if the situation on the stock market eases.
Should it break through the support, it will impact the static support area (in blue in the chart) that will mark the future course of the commodity in the short term.
This week, except for the GDP announcement in the UK and the mentioned IMF meeting possibly impacting euro related pairs, we do not have much impacting the market, but there is more than enough on the ongoing political issues in Europe to fuel volatility and provide us with trading opportunities.
Have a great trading week!