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    The Week Ahead: Week of June 10, 2016


    Technical Developments:

    • GBP/USD has fallen to key support amid increasing concern over impending Brexit risk, and could continue to fall in the run-up to the June EU referendum.
    • EUR/JPY has broken down to a new three-year low, resuming its long-term bearish trend.
    • AUD/USD has retreated from key resistance as the US dollar has rebounded, but any continued decline in expectations for a near-term Fed rate hike could lead to a rebound and upside breakout for the currency pair.


    The event risks of the next two weeks, most notably the risk of a Brexit vote during the UK’s EU referendum on June 23rd, have begun to weigh more heavily on GBP/USD, prompting a fall from key resistance. Since the multi-year low of 1.3835 was hit in late February, the currency pair has been trading on a rising trend line as Brexit worries had begun to abate earlier in the year. This rise and recovery, however, have remained within a longer-term downtrend with resistance imposed by both a descending trend line extending back to the August high of last year as well as a steadily falling 200-day moving average. As of Friday, GBP/USD has extended its fall from that resistance well below its 50-day moving average to touch and dip below the noted rising trend line. As the risk of a Brexit outcome continues to weigh on the pound in the run-up to the EU referendum, GBP/USD could see a sustained breakdown below the trend line, which could open the way towards the next major downside target around the 1.4000 psychological support level.




    EUR/JPY dropped to a new three-year low of 120.30 this past week. From a longer-term perspective, the currency pair's bearish trend bias has been playing out for at least a year. This bearishness has been clearly outlined by a downtrend line beginning in August of last year that began to accelerate into an even more sharply-angled downtrend beginning in late January. Additionally, both the key 200-day and 50-day moving averages are clearly sloped rather steeply to the downside. Most recently, the clear succession of lower highs and lower lows broke down below key support around the 122.00 area late last week. With sustained trading below this 122.00 level, EUR/JPY could continue to move lower in the run-up to the EU referendum and, depending on the outcome, also after the votes are counted and the results are released. Brexit worries have helped to place pressure on the euro while also helping to support the safe haven yen. The next major downside targets on a further bearish move after the recent breakdown are at the 119.00 and then 116.00 support levels.




    AUD/USD made an abrupt downside reversal late this week as the US dollar rebounded after having slid sharply since the release of dismal US employment data last Friday. Prior to this drop, recent Australian dollar strength and the NFP-driven weakness in the US dollar prompted an AUD/USD surge to major resistance around the 0.7500 psychological level, which is also around the 50% retracement level of the slide from April’s 0.7833 high down to May’s 0.7143 low. As noted, the currency pair turned down from that resistance late this week as the US dollar rebounded and pared some of its losses from the previous several days. In the process, AUD/USD dropped back down below its 50-day moving average. In the event that the US dollar resumes its recent fall due to a continued decline in expectations for a near-term Fed rate hike, a decisive breakout above the noted 0.7500 resistance level could open the way for a rise back up towards the 0.7700 and 0.7800 resistance objectives. To the downside, if 0.7500 continues to hold, any further AUD/USD retreat could prompt a fall back down to the noted 0.7200 consolidation area.



    Global financial markets in the past few weeks have been utterly dominated by increasingly shaky speculation over two major themes – future US interest rate hikes and the possibility of the UK voting to leave the European Union. These two themes will be front and center for the next two weeks, at the very least, as the next FOMC meeting and rate decision in the US will occur next week, while the UK’s EU referendum will be held the following week. Both the speculative risk preceding these events as well as their actual outcomes have and should continue to have wide-ranging repercussions on the global markets, most notably with respect to currencies and equity markets.

    As for the Federal Reserve, a June rate hike has most likely been taken off the table altogether. The likelihood of a July hike is also much less likely than it was only a week ago. In the past few weeks, the monetary policy signals emanating from FOMC members have vacillated dramatically. Prior to the mid-May release of minutes from April’s FOMC meeting, the Fed had been showing signs of increasing dovishness with regard to near-term rate hikes. The release of the minutes, however, revealed that the FOMC had in fact become rather optimistic about the appropriateness of raising interest rates if economic data continued to show signs of improvement. The minutes were followed up by a series of remarks from FOMC members, including Fed Chair Janet Yellen, reiterating the newly hawkish turn. Not long after, however, last week’s immense disappointment in US non-farm payrolls (NFP) employment numbers (38K jobs added in May vs 160K expected) led to yet another dovish turn, as expectations for a summer rate hike began to plunge. The employment data clearly did not fulfill the contingency of expected improvement in economic data. As it currently stands, the Fed Fund futures market is reflecting less than a 4% implied probability of a June rate hike, with July and September standing at 24% and 38%, respectively.

    Of course, a June rate hike was already highly unlikely even before the dismal US jobs numbers were released, as next week’s FOMC rate decision occurs only little more than a week before the exceptional event risk imposed by the UK’s EU referendum on June 23rd. The Fed has repeatedly stated its concerns in recent weeks regarding the risk of a UK exit from the EU (popularly referred to as “Brexit”). But even expectations of a July or September rate hike should also be strongly contingent upon the EU referendum. An actual Brexit outcome could likely preclude a Fed decision to raise rates in either of those months, as the potentially resulting economic and financial instability should not be conducive to a near-term rate hike.

    Like the Fed’s monetary policy stance, UK polls in the run-up to the referendum have also vacillated significantly. For weeks, formal telephone and online polls had shown the “Remain” camp enjoying a substantially commanding lead. More recently, since the end of May, newer polls have shown the “Leave” camp closing the gap and, in some cases, assume a narrow lead. A major factor leading to this increased Brexit support has been attributed to growing arguments and concerns over UK immigration control. Latest polls have shown that those who wish to remain in the EU have gained back some momentum, but the key deciding factor will likely rest on the shoulders of the sizable “Undecided” group of polled voters, who will be crucial in ultimately swaying the outcome of this very close contest.

    Market volatility in the next two weeks, therefore, should be exceptionally high, especially with respect to the most potentially affected markets. Key among these markets will be major currencies including the British pound, the euro, and the US dollar. A pro-Brexit outcome, which could also help preclude a Fed rate hike for some time, is likely to be a strong negative for all three currencies. With that said, the British pound along with the UK equity markets should clearly be affected in the most negative way, followed by the euro currency and major European markets. A majority vote to remain, in contrast, will take the event risk off the table and likely lead to a considerable rise and alleviation of pressure on affected markets, particularly with regard to the British pound.

    The contrast between European and US equities could not be more striking. Whereas the S&P 500 is just shy of its all-time high, in Europe most major stock indices are still limping following their early 2016 wobble. This is despite the ECB’s ongoing bond-buying program being at full throttle, which has helped to push benchmark government bond yields to record lows with the German 10-year being just above zero and UK’s equivalent dropping to a fresh low this week.

    Falling yields or rising bond prices are “supposed” to encourage yield-seeking investors into investing in riskier assets such as equities, especially when you consider the fact that the ECB, as part of its QE stimulus program, is purchasing corporate bonds (as government debt) as well. Yet, the European markets, which had already been struggling to keep up with their US counterparts, dropped sharply on Friday. US markets were also dragged down at the open though they still were outperforming, which is even more bizarre given that another interest rate rise there looks almost inevitable in the coming months (which in theory should be bad news for US equities).

    Crude prices sold off too amid profit-taking, but their recent upsurge had failed to underpin the European indices in a meaningful way anyway. Clearly, then, investors here must be holding fire either because of domestic growth fears or concerns about the potential implications of Britain leaving the EU. If the latter is the case, then a vote to stay in the EU, if seen, should lead to a big rally for European markets on or around June 23.
    Thus, until the June 23 referendum is out of the way, the European indices will most likely remain out of favor or range-bound, or at best continue to underperform the US markets. Thereafter, if Britain is still part of the EU, they should begin to outperform given the growing divergence between monetary policies in Europe and the US.

    Next week's focus will be on a few other areas, too. Fresh industrial production data from China at the weekend, for example, could cause a few fireworks of its own should we see a poor number. It is expected to have edged higher in May to an annualized rate of 6.1% from 6.0% the month before. In addition, there will be a number of central bank meetings as well as key economic data from both the UK and US economies - employment and inflation figures respectively. The Federal Reserve's much-anticipated meeting is on Wednesday. However, the central bank in unlikely to make any surprise announcements as has already been indicated by chair Janet Yellen. Instead, the Fed may prepare the market for a potential rate rise in the next or subsequent meeting. If so, we could see the markets experience more volatility as investors try to figure out what this will mean for economic growth and the outlook for equities.

    Technical outlook: SP 500

    With the S&P arriving near the top of its multi-year range, the sell-off that we have seen in the past couple of days should not come as a major surprise. Clearly some traders would be looking to fade the rally, for the previous attempts to break to new highs had failed quite dramatically. This group of market participants may not necessarily expect to see another similar correction, but a short-term pullback, such as the one we are seeing now, would still provide plenty of room to work with. Likewise, bullish traders are likely to have taken or thought about taking profit near these lofty levels.

    But there is no question that within its long-term consolidation range between 1800 and 2135, the trend has been bullish for the S&P. Several attempts by the sellers to gain control of the market have failed. Some will no doubt try and exert their force once again as we approach the top of the range now. But judging by their most recent attempt to derail the rally (when a much-talked-about Head and Shoulders reversal pattern failed to materialize last month and many bears were trapped, which subsequently led to a quick short-covering rally), their efforts may prove futile once again.
    But the S&P has already formed a swing reversal pattern around 2116, which was the high it hit in November before it fell: slowly at first, then sharply at the turn of the year. While we may not see a similar action this time, the possibility for a small pullback is there given the fact that the RSI indicator is diverging negatively with the index, which suggests that the bullish momentum may be waning. At this stage, the divergence is just a warning, not a reversal sign. For the latter to happen, the S&P will need break some major support levels for confirmation.

    Even if the S&P falters around these levels, traders will need to be wary of another potential bear trap, for the underlying trend is still technically bullish – and it will remain so for as long as the index resides inside the bullish channel. Indeed, the 21-day exponential and 50-day simple moving averages are both pointing higher and the 200-day simple MA is flattening. So, a pause in the rally may not be a bad thing as far as the bullish argument is concerned.

    If the S&P does pullback from here, the potential levels of support to watch for a bounce include 2100 (which was being tested at the time of this writing), 2085 and then 2075, where the 50-day MA meets the support trend of the bullish channel. Only a closing break below the latter would be deemed a significantly bearish scenario as that would potentially pave the way for a much deeper correction and perhaps a re-test of the 200-day MA.

    But if the S&P breaks back above the 2116/7 resistance level at some stage in the new week then a rally towards, if not beyond, the prior record high of 2134/5 would then become highly likely.


    Source: Please note this product is not available to US clients.

    Gold is little-changed at the time of this writing on Friday afternoon but remains on track to chalk up solid gains for a second week running. Although the dollar has bounced back in the last couple of days of this week, it had fallen sharply the week prior as, contrary to the FOMC’s last meeting minutes, the Fed made it clear that a rate hike on Wednesday of next week was highly unlikely as it expressed concerns about the May US jobs report and the potential implications of Britain leaving the EU (Brexit). The probability of a July rate rise has also fallen quite sharply.

    Consequently, the Fed will continue to watch new incoming data like a hawk, especially this month’s jobs report which will be released in early July. Next week, there will also be a few important US macro pointers which may impact the timing of the next rate hike. These include retail sales (Tuesday); Producer Price Index and industrial production (Wednesday), and the main measure of inflation: Consumer Price Index (Thursday).

    In Europe, yields on 10-year German Bunds hit repeated all-time lows and on Friday they stood at just 0.019 percent. This came as the ECB started purchasing bonds of corporations as part of its wider quantitative easing program. UK’s equivalent 10-year yields also hit a record low as bond prices rose. In addition, the European stock markets, which had been lagging Wall Street for weeks anyway, fell sharply in the second half of the week.

    The falling stock markets and bond yields boosted the appeal of the non-interest-bearing, buck-denominated and safe haven gold. Sentiment has been downbeat in Europe because of Brexit fears and also the lack of economic growth despite the ECB’s on-going monetary efforts. With the EU referendum now less than two weeks away, the cost of protecting against falls in the pound has soared to record levels, even as betting odds on ‘remain’ have risen to a good 75 percent, according to BetFair.

    But has gold gone too far, too fast in this stage of the bull cycle? Well, “not really” is the short answer. After all, it continues to remain inside a larger consolidation pattern between $1200 and $1300. The bulls will be pleased to see the prior broken resistance at $1200 once again holding up as support. In addition, gold has risen back above the 21-day exponential and 50-day simple moving averages. These moving averages are pointing higher and are above the slower 200-day moving average. Clearly then, the underlying trend is bullish even if gold is effectively still in a larger consolidation pattern. Some of the potential levels of support and resistance are shown on the chart in blue and red, respectively.



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