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Fear of Economic Slowdown Weakens Equities

James Hyerczyk from ForexHound.com at 01/21/10


Fear that the economy may slow down led to a massive sell-off in equities this morning. Support failed in the stock indices after fresh money failed to show up after an early morning sell-off. This broke the pattern of the last two days and set the tone for a sizeable retracement.

The same fear that is driving equities and commodities lower is helping to lower yields on Treasury Bonds and Treasury Notes. Because of the increased supply which is supposed to hit the market soon, expect this current rally to be short-lived.

The stronger Dollar helped pressure February Gold this morning. Liquidation is taking place in this market because the need for a hedge against inflation has diminished now that China has signaled its intention to tighten up its monetary policy.

March Crude failed to hold on to support although today’s supply and demand news was favorable. A general decline in all commodities because of the stronger Dollar and the news from China is the catalyst behind today’s weakness.

The U.S. Dollar is trading mixed at the mid-session as profit-taking and volatility dominate the trade. Earlier in the session, the U.S. Dollar surged as traders took protection against a shift in China’s expansionary monetary policy.

The overnight announcement, that China’s economic growth and inflation figures exceeded expectations fueled speculation that it was poised to begin restricting loans and ending stimulus. Fear that the economy may overheat triggered demand for lower yielding assets at the expense of higher risk assets.

Throughout the New York session, aggressive buyers backed away from chasing the Dollar higher, leading to a profit-taking break. Overbought conditions and intraday turnarounds in the Euro and Yen were the primary causes behind the Dollar’s developing weakness.

The March Euro weakened further during the New York session, but losses were limited by a rumor which said the European Union was preparing to loan money to the country to shore up its budget deficit. The rumor was denied, but investors, nonetheless, took protection against a possible massive short-covering rally by lightening up positions.

The chart pattern suggests the Euro is holding the psychological level of 1.4000; however, 1.3800 remains the next valid downside target. Short-covering today could send this market back to the old bottom at 1.4217.

The March British Pound weakened further overnight on the news that the U.K. budget deficit widened. A lack of confidence in the economy could also be a driving force behind the recent weakness as investors fear that the U.K. may be falling behind its peers in the midst of the economic recovery.

The current two-day break has created two key ranges: 1.5832 to 1.6457 and 1.5895 to 1.6457. These ranges create retracement zones at 1.6144 to 1.6071 and 1.6175 to 1.6108. The overlap of these two retracement zones suggests possible support developing inside 1.6144 to 1.6108. In addition, uptrending Gann angle support is at 1.6132 today. At the mid-session, the British Pound found support inside this zone at 1.6124.

The March Japanese Yen fell overnight on speculation the currency is poised to once again become the world’s carry currency. Additional weakness hit the Yen following a report that demand for lending dropped. The Yen turned higher following a sharp break in U.S. equities. This signaled that traders were buying the Yen for protection.

The March Swiss Franc continued to fall overnight but backed off as it approached the December low at .9522. A failure to hold a downtrending Gann angle at .9555 triggered profit-taking stops, which led to a short-term rally and turned the Swiss Franc higher. A higher close today will form a closing price reversal bottom and could trigger the start of a sizeable upside correction.

Technical factors could help support the March Canadian Dollar now that it has retraced greater than 50% of its recent rally. Based on the main range of .9303 to .9780, the key retracement zone is .9510 to .9461. This market is currently testing this area.

Fundamentally, the recent action by the Bank of Canada suggests that it will defend against a rapid rise in the currency. This creates a potentially long-term bullish scenario. Short-term conditions are overbought, which may trigger a mild correction.

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