Obama's Regulatory Proposal Rocks Equity Markets

James Hyerczyk from ForexHound.com at 01/22/10

President Obama’s new regulatory proposal to curb trading by financial institutions and the fear that the economy may slow down led to a massive sell-off in equities on Wall Street. Support failed in the stock indices early in the session after fresh money failed to show up.  This broke the pattern of the last two days and set the tone for a sizeable retracement break. The trend will turn down in the March E-mini S&P 500 on a penetration of 1109.75, but fresh buyers may step in following a test of 1105.00. If this price fails to hold, then look for a further deterioration to 1095.00.

The same fear that drove equities and commodities lower helped to lower yields on Treasury Bonds and Treasury Notes. The March Treasury Bonds will turn the main trend up on the daily chart on a trade through 119’08.  Currently, this market is retracing the 123’00 to 114’16 break. 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.  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 March Japanese Yen reversed its four day break as traders sought safety in lower yielding assets following an announcement by President Obama to curb trading at financial institutions. The immediate reaction was to sell higher risk assets after Obama called for a reduction in the size and trading activities of financial institutions. The upside reversal in the Japanese Yen sets up a test of a major 50% price at 1.1273.

The U.S. Dollar traded mixed against most major currencies as profit-taking and volatility dominated 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 stocks and commodities.

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 weakness.

The March Euro weakened further during the New York session, but losses were limited by a persistent rumor which said the European Union was preparing to loan money to Greece 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 EUR USD held the psychological level of 1.4000; however, 1.3790 remains the next valid downside target.  Short-covering could send this market back to the old bottom at 1.4215.

The March British Pound weakened further 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 British Pound closed off its low but still finished down after testing a series of retracement levels between 1.6140 and 1.6105.

The March Swiss Franc managed to post a daily closing price reversal bottom amid Thursday’s volatility.  A follow-through tomorrow could trigger the start of a short-covering rally to .9701.

Technical factors tried to support the March Canadian Dollar as it approached a 50% level at .9519, but these forces were not able to keep this pair up into the close, setting up the likelihood of a further decline to .9461.

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.