Often many novice traders are anxious to take a trade. Therefore, when the market is up strongly the novice usually looks to buy a stock that is weak on the day. The opposite should be done. On the flip side we see many novice traders looking to short(sell) strong stocks on a weak day. Again, the opposite should be done.
When the lion in the jungle is stalking his prey he does not go after the healthy adult zebra. The lion goes after the wounded zebra or the baby. He is looking to increase his odds of a meal when he is hunting. The same mentality needs to be understood for a trader or investor. As a trader if the market is weak on the day a trader should look to stocks that are weak already. The same rules would be reversed for a strong market. Never short a strong stock because if the market reverses that stock is more likely to catch a very strong bid and vice versa for a weak market.
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Just like Ben Bernanke, President Obama came on the TV today to give some positive words about the job market and the US economy. As has been the case since Obama gained entrance into the White House, as soon as he starts to speak, the markets get a solid bid. This happens with Federal Reserve Chairman Ben Bernanke as well. What does this tell us? For those of us that believe in the Plunge Protection Team, it tells us that they are hard at work not allowing the markets to fall during Presidential speeches. It is most likely felt that it would be very detrimental to the US and its citizens if the market would sell hard during President Obama's speech. Therefore, the PPT must push the markets higher to give extra confidence to the markets.
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The latest comments from Federal Reserve Chairman Ben Bernanke suggests that he is not convinced that the improvement in the labor market will last, but the price action in the currency market indicates that traders are still repositioning for an earlier unwind of the Fed's ultra easy monetary policy measures. As the Federal Reserve inches closer to raising interest rates, we we thought it would be interesting to examine how the dollar trades before and after Fed tightening. In order to gather this data, we looked at the Fed’s tightening cycle only after a prolonged period of easing or steady monetary policy.
We examined 8 periods of tightening over the past 3 decades and compared how the EUR/USD and USD/JPY traded before and after the Federal Reserve began to raise interest rates. To help understand these tables, in 2004 for example, 3 months before the Fed began to tighten, the EUR/USD was trading 2 percent lower. In other words, it appreciated 2 percent ahead of the rate hike. Three months after the Fed actually tightened, the EUR/USD was trading 1 percent higher which means that after the rate hike, the euro actually strengthened against the dollar.
Based upon our analysis, the only discernable trend is that contrary to the popular belief that a rate hike in the U.S. should be positive for the dollar, the greenback tends to weaken against the Japanese Yen after the Federal Reserve begins to raise interest rates. Aside from 2003, we see a very consistent pattern of dollar weakness once the tightening cycle begins. The primary explanation is that the Fed would only raise interest rates if growth is strong and stronger growth in the U.S. tends to benefit trading patterns like Japan who see their exports expand exponentially. For the EUR/USD, the only trend that we can identify is the bias for dollar strength, euro weakness in the 3 months after the Fed begins to raise interest rates - the EUR/USD either remains virtually unchanged or weakens. We also see a mild bias for dollar strength in the 3 months going into the rate decision. It remains to be seen whether this pattern will be repeated in this tightening cycle, but it certainly helps to know how the U.S. dollar has performed in the past.
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Both USD & JPY rally against all major currencies, with JPY OUTPEFORMING ALL CURRENCIES (USDJPY testing 88.15). GBPUSD tumbles sharply after UK Indus production & manuf output both fell by more than expected (we warned you in previous IMT). The USD recovery intensifies as EURUSD breaks well below $1.48 and USDX jumps past 76. GOLD drops $80 from its $1,225 high. We would be particularly vigilant with a close below $1,070, which would mean a 13% decline from the high. Since January, gold had never fell more than 13% from its cyclical high, thus greater scrutiny will be drawn beyond this threshold. GBPUSD testing 50% retracement at 1.6285 and could extend losses towards $1.6150 on Wednesday's anticipated UK Budget.
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UK Industrial production, Bank of Canada's interest rate decision & EIA oil inventories will be the key items in todays FX trading agenda. UK Oct Indus prod (9:30 GMT) exp +0.5% from +1.6%, manuf output exp -7.2% from -9.3%. BoC announcement (14:00 GMT) exp to keep rates unchanged at 0.25% but watch out for the language on growth forecast & currency strength, which has shed more ink over the past 3 announcements. GBPUSD broke below yesterdays 1.6360 target, before recovering to 1.6480. Resistance stands at 1.6580, with downside seen starting at 1.6290, followed by 1.6150. But GBP appears technically more robust against NZD and AUD w/ more upside seen ahead. EURUSD not out of the technical woods as it remains less than half a cent away from the key $1.48 support. With EURUSD making up 57% of the USD index, $1.58 in EURUSD and 76 in USDX must be closely watched as the gateway for possible USD gains. Ashraf is on travel schedule in Asia so updates will be on less regular frequency. y.
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Non-farm payrolls blew away even the best estimates by economists, driving the dollar sharply higher against all of the major currencies. No one including ourselves expected such a hot number. We have previous said that in order for the dollar to stage a long term recovery, U.S. growth needs to blow away expectations and the latest NFP numbers did just that. With job losses falling by only 11k last month, the U.S. economy is at the verge of returning to positive job growth. Based upon the consumer confidence numbers, the ADP report and the employment component of the ISM reports, it is hard to believe the accuracy of the latest non-farm payrolls figures. However the numbers provided are the only numbers that we have at hand and revisions will not be released until next month. Therefore taking the report at face value, the massive improvement in the labor market should create a medium term bottom in the U.S. dollar as long as risk appetite does not gain control of the currency market.
The latest non-farm payrolls figures suggests that the U.S. economy is not doing nearly as bad as everyone have feared. Many had assumed that the sheer magnitude of the recession would require a more disenchanting path of unemployment, signs that it is subsiding could indicate that the recovery will be more brisk and robust than previously thought. The drop in the unemployment rate from 10.2 to 10.0 percent suggests that joblessness may have finally peaked and the price action in the dollar reflects traders repositioning for stronger U.S. growth in 2010. Given that the Fed has never raised interest rates before a peak in the unemployment rate, the decline in November gives the Fed a stronger reason to speed up their timetable for an exit. The average weekly hours and wage data indicate that companies are forcing employees to work longer hours for an incrementally smaller increase in pay but this is not enough to erase the positive tone of the data. In our non-farm payrolls preview, we talked abuot how it typically takes an average of 2.27 months for job growth to return after a recession. Even though the official end of the recession is still debatable, if we use Bernanke’s estimates of a September estimate as a rough guide, then the U.S. economy is on track to return to positive job growth in December.
However, with the good news and excitement aside, the next question that comes to our minds is what this means for the Federal Reserve and its doctrine of keeping rates low for an extended time. Up until this point, no respectable economist would consider that rates would move anywhere until the second quarter at the earliest. In fact, the Fed has committed to little in terms of unwinding extraordinary measures, having only terminated the Treasury purchases in October. However, if a continued easing in unemployment indicates that we have indeed past the peak, history has shown that the Fed is inclined to start raising rates. Typically, the trough in employment is used as a barometer of when the Fed feels comfortable with draining excess money from the system. It remains to be seen how the Fed will react and a hike still seems months in the future, but today’s release definitely brings new possibilities to the table.
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The service sector ISM report released this morning was the last piece of the puzzle for predicting Friday’s non-farm payrolls number. On the day of Bernanke’s confirmation hearing, the return to contractionary conditions in the service sector is a blow to his credibility but when it comes to predicting NFPs, what we care about is the employment component of that report which increased marginally in the month of November. This suggests that job losses moderated but with some traders looking for payrolls to drop by less than 100k, market expectations may be too frothy. The sell-off in the U.S. dollar and the resilience of stocks indicates that traders are looking for an improvement in NFPs but the hesitant move also implies that they want to wait to see that job losses recede before adding to short dollar positions.
The following chart illustrates the strong correlation between nonfarm payrolls (white line) and the employment component of service sector ISM (orange line). Based upon this pattern, the improvement in NFPs should be minimal.
Leading Indicators Point to a Positive Report
The reason why job losses are expected to moderate is because 7 out of the 10 indicators for non-farm payrolls that we follow support a stronger number. However 3 of the most important (service ISM, ADP and Consumer Confidence) rose only modestly which is why we believe that the improvement in payrolls could be small. In fact, we would not be surprised if non-farm payrolls fell by more than 150k in the month of November because the only unambiguously positive improvement was in jobless claims.
Arguments for Stronger Payrolls Report
1. Employment Component of Service ISM Rises to 41.6 from 41.1
2. 4 Week Average Jobless Claims Below 500k, Weekly Claims Hits 1 Yr Low
3. Challenger Reports 72.3% Drop in Layoffs
4. Continuing Claims at 5.465M Compared to 5.651M
5. ADP Reports Private Sector Job Losses at -169K, Lowest Since Aug 2008
6. Conference Board Consumer Confidence Rises from 48.7 to 49.5
7. Zero Strike Activity
Arguments for Weaker Payrolls Report
1. Monster.com Employment Index drops one point
2. Employment Component of Manufacturing ISM Drops from 53.1 to 50.8
3. Steep Fall in University of Michigan Consumer Confidence Survey
What Is the Market Expecting?
Here are the forecasts for November Non-Farm Payrolls:
The Bar is Set High for Payrolls – Jobless Recovery
The bar is set high for Friday’s non-farm payrolls report as the market expects the smallest amount of job losses in 25 months. The consensus forecast calls for non-farm payrolls to fall by 125k, but actual economist forecasts range anywhere from -30k to -185k. This means that as usual, the only thing that we can be certain of when it comes to the market’s reaction to NFP is volatility because given the wide range of forecasts someone is bound to be surprised. The jobless rate will also be important now that it has breached the 10 percent mark because if it falls, everyone will begin to wonder if unemployment has finally peaked. With a jobless rate of 10.2 percent, it has become harder to believe that, with stock markets flying higher and indicators showing strength, that the economy is about to exit one of the worst economic storms since the Great Depression. Unfortunately, even at this point, it seems that we have a long stretch ahead before any sustainable signs of job growth will be seen. After all, monthly NFP have yet to show even consistent signs of improvement, let alone growth. Employers have adapted very quickly to the new environment by expanding worker productivity in an effort to avoid hiring in an uncertain marketplace. In addition, even with the productivity gains, there is a lot of slack that can be fulfilled just by increasing the work week of employees lucky enough to keep their jobs. Central bankers aren’t even convinced that we will see a meaningful improvement in the labor market. Bernanke said this morning that unemployment will remain high for a long time. Therefore, while growth and optimism may be returning this could be a jobless recovery.
How Long will it Take to Return to Positive Job Growth?
Historically, it takes an average of 2.27 months for job growth to return after a recession. The National Bureau of Economic Research will not officially date the end of this recession until months from now, but based upon the GDP data and comments from Fed Chairman Ben Bernanke, the recession ended in the third quarter. However this recession may be the exception to the 2 month average because if the recession ended in September like Bernanke said, then job growth should return in December. Given the current state of the economy, this is highly unlikely. Yet as the trajectory of non-farm payrolls improves, there is a good chance then that the U.S. economy could return to positive job growth in the first quarter.
How to Trade the Non-Farm Payrolls Report
Since the beginning of the year, the non-farm payrolls report has triggered a tremendous amount of volatility in the U.S. dollar. When the last 2 NFP numbers were released, they were worst than the market expected and the U.S. dollar rallied on risk aversion. However shortly thereafter the dollar gave back its gains but as indicated by the 2 charts below, that also failed to last. If non-farm payrolls disappoints and falls by more than 150k, we could see this same type of price action. If it falls by -120k or less, the dollar may rally initially against the euro but ultimately should fall as good numbers reignite risk appetite.
The Non-farm payrolls report is a notoriously volatile piece of news to trade as revisions and expectations also impact the market’s reaction. Traders should remember that the first reaction to the non-farm payrolls report is usually not the one that lasts for the rest of the trading day. The following charts show how the knee jerk reaction in the EUR/USD was erased every single month. Even though the direction associated with these instances has not always been the same, we can see that the immediate reaction is usually not sustained, and eventually reversed into a more substantial move that lasted for the course of the trading day. So when it comes to trading non-farm payrolls, it pays to wait.
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Volume has been one of the most impressive indicators in the markets recently. In fact, it has been since probably about May 2009 and continues to be today. As a Chief Market Strategist, I have noted day in and day out that when volume is over 200 million on the SPY, the markets and down significantly while when it is under 200 million, the markets are flat or higher. What does it mean? Essentially, when volume is light there is no participation or very little participation from institutions. Human psychology is naturally positive. Think of it this way, if as a human, you are not positive in your life you will generally be medicated (anti depressants) to be positive. Therefore, if volume is light and the average person is the only participant, then the markets will generally float higher. Scan the markets, any day that the volume is lower than 200 million on the SPY, the markets will be flat or higher. Note any major down days are on much higher volume than 200 million on the SPY. Truly amazing and a testament to the psychology of the markets.
Gold has shot through the roof in recent weeks as the dollar has been crushed day after day. The last few days on gold however have been a pure and simple short squeeze. This is obvious by looking at the dollar and comparing golds movements. For instance, yesterday, gold shot through the roof again making new all time highs yet the dollar did not drop. This is a clear signal that gold is squeezing. In other words, it is ignoring the dollar and causing a move higher triggered by shorts having to cover their positions. In general, this is an indicator that gold is nearing a short term top. In addition, the extension move off the daily 20ma on the gold chart says the same thing. This is a trade that needs to come back in. Once the shorts are out, it will come in.
Chief Market Strategist Gareth Soloway Rates Gold Near Term Top With A B+ Rating. This means there is a strong possibility that gold is near or at a short term top.
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But Dollar Rules The Roost...
The economic news flooded the market this morning as Jobless Claims came in better than expected while Retail Sales and ISM Services came in far worse than expected. Let's analyze. Jobless Claims came in far better than expected. What does it mean? Well I would personally put an asterisk next to the number. Why? Well last week was Thanksgiving and Black Friday (the biggest shopping day of the year). Most companies would very possibly scale back layoffs on the week of Thanksgiving. In addition, any company in retail would most likely not be laying off employees right before Black Friday and the surge in consumers. Then if you look at Retail Sales and ISM Services. Both coming in far weaker than expected. These are most likely a more truthful guide to the actually economy. Mind you this economy is high on government spending as well. In fact, GDP would have been negative if not for the massive amount of printing the government/federal reserve has done. In any case, I give this economic news this morning at C- at best. The markets continue to hold around the flat line. Why? Why have they not sold off? Simply point, the dollar is holding it in check. As long as the dollar is controlled and not allowed to pop, this market, regardless of any or how bad the economic news is, will hold its gains. Understand the rules folks and enjoy making some money!
It has been a mixed day in the currency markets with the U.S. dollar trading lower against the euro, Australian and New Zealand dollars but higher against the British pound, Japanese Yen and Canadian dollar. Stocks were unchanged for most of the day but in the last half hour of trading, they plummeted as traders took profits ahead of Friday’s non-farm payrolls report (NFP). Consolidative price action is not uncommon before NFP, which is the most market moving event risk for the currency market because the labor market is the backbone of the U.S. economy and jobs are critical to the U.S. recovery. The price action even suggests that traders are in denial about the sharp decline in non-manufacturing ISM because they are holding onto the hope that job losses are receding.
How Significant is the Decline in Service Sector ISM?
However the non-manufacturing ISM report is very important because the service sector accounts for almost 90 percent of the U.S. economy. The drop from 50.6 in October to 48.7 in November propels the sector back into contractionary territory. Although this is discouraging, it is not completely surprising since the pace of recovery in the U.S. economy has slowed. Also, during the 2001 recession, the service sector oscillated in between expansionary and contractionary conditions. Yet the details of the report were not nearly as discouraging as the headline release. There was only a modest decline in new orders and actually an increase in export orders and a slower contraction in employment. At this point, the manufacturing sector is outperforming the service sector thanks to a weaker dollar but if the financial sector continues to improve, the service sector could catch up. The non-manufacturing ISM report is a fairly important barometer of the overall U.S. economy but its most practical usage is to help predict the directional move in non-farm payrolls. In our November Non-Farm Payrolls Preview , we included a chart illustrating the strong correlation between the employment component of service sector ISM and NFP - the 0.5 increase in the employment component signals only a marginal improvement in the payrolls report.
What to Expect from Non-Farm Payrolls
The bar is set high for Friday’s non-farm payrolls report as the market expects the smallest amount of job losses in 25 months. The consensus forecast calls for non-farm payrolls to fall by 125k, but actual economist forecasts range anywhere from -30k to -185k. Of the 9 leading indicators of non-farm payrolls that we typically follow, 7 point to a strong number. However 3 of the most important (service ISM, ADP and Consumer Confidence) only rose modestly which is why we believe that the improvement in payrolls could be small. In fact, we would not be surprised if non-farm payrolls fell by more than 150k in the month of November because the only unambiguously positive improvement was in jobless claims. This means that as usual, the only thing that we can be certain of when it comes to the market’s reaction to NFP is volatility because given the wide range of forecasts someone is bound to be surprised. The jobless rate will also be important now that it has breached the 10 percent mark because if it falls, everyone will begin to wonder if unemployment has finally peaked. Read our NFP Preview for more on How the EUR/USD could react to Non-Farm Payrolls.
How do Obama, Geithner and Bernanke Feel?
On the eve of the jobs report, President Obama held a Jobs Summit. Conspiracy theorists may wonder if this is damage control before an ugly number is released but we won’t speculate on that because the goal of the Summit is to let America know that job creation is a top priority for the Obama Administration. He called on the nation’s largest companies to “bring their A-game” in presenting new ideas for job creation. In an interview with CNBC, Treasury Secretary Geithner echoed Obama’s commitment to job creation. He also indicated that it is vital to bring down the U.S. budget deficit and for the government to persuade the world that it will be more fiscally responsible in the future. In his confirmation hearing, Federal Reserve Chairman Ben Bernanke defended the Fed’s role in bailing out financial firms and indicated that their job is far from complete. He has received a lot of criticism and if he not confirmed by the Senate Banking Committee for a second term as the head of the central bank, expect the U.S. dollar to sell off aggressively.
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YEN & DOLLAR TAKE TURNS: As reports of more possible action from the BoJ filter through the markets, USD benefits from the latest dosage of risk aversion. We hate to sound like a broken record on the SP500's inability to break above 1120, but the latest data disappointment on services industries from Eurozone, UK and particularly the US (ISM fell back below 50) boosted USDCAD above the 1.0530 target, dragged GBPUSD back below 1.6550 and sent AUDUSD back towards the initial 0.92 target of the latest HotChart. Markets quickly tempered their excitement from the +457K reading in US weekly jobless claims after the employment component of the non-manufacturing ISM remained at a dismal 41.6 in November from 41.1 in October, which raises the possibility of a payrolls loss greater than the 120000 consensus. Ashraf is on travel schedule so updates will be less frequent than usual.
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Bigger than expected build in EIA crude inventory drags down oil below 77, cable fails to break $1.67, AUDJPY never succeeded in closing above the 81 resistance and risk appetite remains unconvinced until a broadly positive US jobs report comes in the pipeline. USDCAD eyes 1.0530, while CADJPY eyes 62.70. Markets raising the bar of hope, expecting US payrolls to drop by 120K, following -190K, while unemp rate seen unchanged at 10.2%. Beige book unexpected to be a market mover. Tomorrows services ISM will be key as its expected at 51.5 from 50.6. Shorts could look into 81 on AUDJPY, 64 on NZDJPY and 146.50 on GBJPY as starting points for new positions
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US Nov ADP -169K vs. expected -155K but previous figure was revised down to -195K from -203K. Dow futures drop from +12 to -8. Overall impact on risk appetite may not be clear, but the markets will keep a close watch on whether the S&P500 will close above that 1,120 resistance. The index did close above its 100-week MA 3 sessions ago but has yet to close above 1120. GBPUSD now faces next major resistance at $1.673576.4% retracement of the decline from the $1.6874 high to the $1.6271 low, coinciding also with the Nov 16 peak. Markets await the EIA INVENTORY REPORT (15:30 GMT), expected to show a rise of 800K barrels in crude stockpiles, a rise of 700K barrels in gasoline and a 300K drop in distillate stocks. Yesterdays release of the American Petroleum Institute showed a RISE in oil inventories of 2.9 million barrels. CADJPY 4-hr coudl extend further losses towards 82.80 if oil is dragged down to 77.00
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