US Dollar Starts Strong, but Can it Hold its Gains?

DailyFX

Article Summary: The US Dollar has started the week on a strong note, but low volatility expectations broadly favor selling into sudden USD strength and we've adjusted our strategy biases accordingly.

DailyFX PLUS Trading Signals Strategies - The US Dollar (ticker: USDOLLAR) has started the week higher against the British pound and other major counterparts, but can the Greenback post its fourth-consecutive weekly gain?

FX Options traders predict the slowest US Dollar moves since 2007, and that fact in itself suggests that the USD rally will be short-lived. Indeed, current market conditions make us favor range trading the US Dollar against the Euro, Swiss Franc, Canadian Dollar, and British Pound.

In concrete terms this means that we believe any significant US Dollar bounces should be sold (buy EURUSD dips), while we may likewise look to buy similarly significant declines (sell major EURUSD rallies).

DailyFX Individual Currency Pair Conditions and Trading Strategy Bias

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Our overall DailyFX PLUS trading strategy bias thus remains roughly unchanged. The “Tidal Shift”/Momentum2 strategy has done well in selling US Dollar weakness, and we might take any fresh EURUSD and GBPUSD long positions based on that alone. As of time of writing, “Tidal Shift” had gone short GBPUSD while it remains short AUDUSD.

With the AUDUSD, the fact that the pair continues to set a series of lower highs and lower lows leaves us mostly in favor of staying short. With the GBPUSD, however, we see scope for a near-term bounce.

It has been quite some time since we favored using our previously-popular “Breakout2/Breakout Opportunities” system, and the reason is simple: breakout trading tends to work best during more volatile market conditions.

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As we wrote last week: "Euro volatility expectations are now at their lowest levels sinc ethe EURUSD set its all-time high of $1.60 in 2008. It was at that point that extremely quiet market conditions led to substantial reversals across the board.

We can’t know whether we will see similar through the foreseeable future as major tops/bottoms are only clear in hindsight. Yet we warn against gettting too complacent amidst such incredibly low volatility levels."

Market Conditions:

Extremely low forex options market volatility expectations suggests that currencies will continue to move in tight intraday ranges.

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Yet volatility expectations can only remain so low for so long. We may be near a significant turning point in market conditions, and caution is urged amidst clear risks of turnaround.

--- Written by David Rodriguez, Quantitative Strategist for DailyFX.com

To receive the Speculative Sentiment Index and other reports from this author via e-mail, send a message with subject line “Distribution List” to drodriguez@dailyfx.com;

Contact David via

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Meet the DailyFX team in Las Vegas at the annual FXCM Traders Expo, November 2-4, 2012 at the Rio All Suite Hotel & Casino. For additional information regarding the schedule, workshops and accommodations, visit the FXCM Trading Expo website.

Definitions

Volatility Percentile – The higher the number, the more likely we are to see strong movements in price. This number tells us where current implied volatility levels stand in relation to the past 90 days of trading. We have found that implied volatilities tend to remain very high or very low for extended periods of time. As such, it is helpful to know where the current implied volatility level stands in relation to its medium-term range.

Trend – This indicator measures trend intensity by telling us where price stands in relation to its 90 trading-day range. A very low number tells us that price is currently at or near 90-day lows, while a higher number tells us that we are near the highs. A value at or near 50 percent tells us that we are at the middle of the currency pair’s 90-day range.

Range High – 90-day closing high.

Range Low – 90-day closing low.

Last – Current market price.

Bias – Based on the above criteria, we assign the more likely profitable strategy for any given currency pair. A highly volatile currency pair (Volatility Percentile very high) suggests that we should look to use Breakout strategies. More moderate volatility levels and strong Trend values make Momentum trades more attractive, while the lowest Vol Percentile and Trend indicator figures make Range Trading the more attractive strategy.

HYPOTHETICAL PERFORMANCE RESULTS HAVE MANY INHERENT LIMITATIONS, SOME OF WHICH ARE DESCRIBED BELOW. NO REPRESENTATION IS BEING MADE THAT ANY ACCOUNT WILL OR IS LIKELY TO ACHIEVE PROFITS OR LOSSES SIMILAR TO THOSE SHOWN. IN FACT, THERE ARE FREQUENTLY SHARP DIFFERENCES BETWEEN HYPOTHETICAL PERFORMANCE RESULTS AND THE ACTUAL RESULTS SUBSEQUENTLY ACHIEVED BY ANY PARTICULAR TRADING PROGRAM.

ONE OF THE LIMITATIONS OF HYPOTHETICAL PERFORMANCE RESULTS IS THAT THEY ARE GENERALLY PREPARED WITH THE BENEFIT OF HINDSIGHT. IN ADDITION, HYPOTHETICAL TRADING DOES NOT INVOLVE FINANCIAL RISK, AND NO HYPOTHETICAL TRADING RECORD CAN COMPLETELY ACCOUNT FOR THE IMPACT OF FINANCIAL RISK IN ACTUAL TRADING. FOR EXAMPLE, THE ABILITY TO WITHSTAND LOSSES OR TO ADHERE TO A PARTICULAR TRADING PROGRAM IN SPITE OF TRADING LOSSES IS MATERIAL POINTS WHICH CAN ALSO ADVERSELY AFFECT ACTUAL TRADING RESULTS. THERE ARE NUMEROUS OTHER FACTORS RELATED TO THE MARKETS IN GENERAL OR TO THE IMPLEMENTATION.

OF ANY SPECIFIC TRADING PROGRAM WHICH CANNOT BE FULLY ACCOUNTED FOR IN THE PREPARATION OF HYPOTHETICAL PERFORMANCE RESULTS AND ALL OF WHICH CAN ADVERSELY AFFECT ACTUAL TRADING RESULTS. Any opinions, news, research, analyses, prices, or other information contained on this website is provided as general market commentary, and does not constitute investment advice. The FXCM group will not accept liability for any loss or damage, including without limitation to, any loss of profit, which may arise directly or indirectly from use of or reliance contained in the trading signals, or in any accompanying chart analyses.

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