GBP/JPY Bulls Look Well Set

Price swings in the GBP/JPY cross in 2010 continued into 2011. Following a deep shake-out in March the subsequent recovery has been decisive, providing a good bull signal.

• WEEKLY CHART The latest recovery here has now tested /eroded the 138.55 38.2% level of prior downleg from the 2009 high. Beyond here our focus would be on the 143.22 50% level, sometimes an effective one in GBP-and JPY-related markets.
• DAILY CHART The recent break through the 135.48 Feb high provided a bull signal. S/term the surge has faltered at the 138.55/139.36 resistance area (38.2% from Weekly chart & Apr-10 high), with subsequent pullback presumed short-lived. Support from the 132.98 22-Mar high has now been tested –ideally the lower 130.18 28-Mar low will hold at this stage.

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What Resistance Lies Ahead For Gold?

The Commodity Specialist view - After the late Dec high Gold turned consolidative, but subsequent correction proved short-lived. The current upleg from a late Jan low shows no immediate signs of tiring, but there are some interesting resistance levels not far overhead.

• WEEKLY CONTINUATION CHART: The current upleg, off support from the old wedge top, looks to be heading for the 1550/55 area, the bull channel top projection and 2.618 swing target off prior 2008 downmove. We’ll be on the lookout for resistance here.
• DAILY CHART JUN-11: After a pause at the Dec high the bull move has resumed, now closing in on the 1.618 swing projection off prior Dec/Jan pullback, at 1515. This plus levels on the Weekly chart warns against chasing the market here. The 1436.70 Dec high offers first support, ahead of the 1382.40 15-Mar low.

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Cotton Challenging Key Support Now

The Commodity Specialist view - The powerful upmove in Cotton #2 hit a temporary high in March, coinciding with Fibonacci projections. After a period of consolidation attention is on a key support area, below which a pullback phase should be initiated.

• COTTON #2 - MONTHLY CONTINUATION CHART: In the Commodity Specialist Guide we have marked in two higher projections at 261.00/268.00. Developments on the Daily chart could at least postpone any test of these.
• COTTON #2 - DAILY CHART JUL-11: The strong upmove halted at two Fibo projections (including the 2.618 swing off prior Nov-10 pullback, at 209.60). Bull channel base support near 180.00 is now under test – this, and the lower 38.2% retracement at 168.72, offers key support. Breaks of these would invite a more prolonged pullback phase.

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The Euro is looking good

The price action in Dollar/Euro over the last several weeks has been quite dramatic as the Dollar struggles under the weight of the yet-to-be-tamed budget deficit and the Euro finds support from the increasingly hawkish rhetoric coming from the ECB.

TECHNICALS

MONTHLY CHART

The unmistakable completion of a large bull falling wedge is what is exciting the bulls for the Euro.

DAILY CHART

The detail of the market’s reaction to completing the falling wedge further encourages the bulls – note the pause beneath the Prior High Pivot at 1.4281 , then the drive up through.

The two prior highs beneath the market are now good support on any pull-backs.

The rising bull trendline support (well-established in three place) is important too.

THE MARKET IS WELL-SET.

FUNDAMENTALS:

The price action in Dollar/Euro over the last several weeks has been quite dramatic as the Dollar struggles under the weight of the yet-to-be-tamed budget deficit and the Euro finds support from the increasingly hawkish rhetoric coming from the ECB.

In the US, President Obama has staked his claim for re-election in 2012, and the battle ground as ever is the economy. This time round it is the nation’s finances that dominate the argument.

Aware that the American public are broadly unhappy with the spiralling debt under his administration, Obama has published his own deficit reduction plan, which aims to cut US$4.0T from the budget over time.

The problem is that his proposal relies more on tax increases for the rich and less on spending cuts, where as the Republican-led House of Representatives sees spending cuts as the way to reduce the deficit and tame the national debt.

At the heart of the debate lies Obama’s essentially liberal leanings which foresee the state playing a greater role in the nation’s life. The Republicans and the broader electorate do not want to see a European nanny state model imposed in the US. So the US fiscal policy is set to dominate the Presidential election campaign and undermine the Dollar.

Cross the Atlantic and focus on the Euro zone. Here a Sovereign debt crisis has been in full swing for over a year. Three countries have had to apply for a financial bailout. It is far from clear whether others will need to follow, with Spain still seen at risk.

The bailout/rescue doesn’t actually reduce the pool of debt, it merely shifts it from one place to another with less-troubled Euro zone member states and the IMF underwriting a fund which is used as a rescue vehicle.

However, the Euro has somehow freed itself from this burden, as the ECB has shifted the debate to inflation. The Eurozone economy, flattered by very strong German growth and supported by French growth is enjoying a strong recovery. Dig deeper and the long peripheral tail is either struggling to grow or still mired in recession as individual economies deal with the impact of the strict fiscal consolidation imposed earlier in the Sovereign debt crisis.

But since Germany and France account for approximately 40% of Euro zone growth and inflation in the Euro zone stands at 2.6% compared to the ECB’s 2.0% target, policy makers are now embarked on a tightening cycle.

As the interest rate differential between the US and Euro zone looks set to grow, the Euro looks a strong buy against the Dollar. Although the Fed is set to let their QE2 policy expire as planned, they still sense the economy isn’t yet strong enough to handle tighter monetary policy, even though Fed officials are noticing an upward creep in headline inflation.

In short, the US and Euro zone both have a debt problem. The US seems unable to agree a means of dealing with hers where as the Euro zone has, albeit imperfectly. Add to this the now divergent monetary policies of the US and Euro zone and the current trend in Dollar/Euro shouldn’t surprise anyone.

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The long bull market in Gold looks set to continue, as the market makes new highs driven by a combination of dynamics that include some new and some of longer-standing

TECHNICALS

MONTHLY CHART

The market has been recently driven by a series of powerful bull structures:

1.H&S continuation pattern ( whose target - a minimum -was achieved at 1250 or so)

2. A continuation Triangle whose minimum target remains above the market at 1480 or so.

DAILY CHART

But this chart in the Jun 11 contract adds further excitement to the bulls case: note that the market has overcome the succession of Prior Highs Pivots at 1430, 1436.70, 1447.20 – which move has now established a powerful band of support beneath the market.

Better still, a continuation Triangle has been completed, whose minimum target lies up as far as 1520 or so. The bulls are in charge.

FUNDAMENTALS:

The long bull market in Gold looks set to continue, as the market makes new highs driven by a combination of dynamics that include some new and some longer standing.

A key feature of this market over the last few years has been the weakness of the Dollar, and although there have been periods of Dollar strength, these now stand out as periods of correction.

Why does a weak Dollar matter for Gold?

The Dollar is the World’s sole reserve currency, therefore prolonged periods of Dollar weakness, especially when driven by inappropriate policy, erodes the wealth of those using it as a reserve and forces them to seek an alternative currency. Since none exists there is only one alternative and that is the ancient store of wealth: gold.

The other dynamic which has been less constant, but has re-emerged, is inflation and the fear that rising energy prices and commodity prices will drive up further the level of inflation globally.

The ECB raised rates today for that very reason and the Central Bank of China hiked rates earlier in the week, the forth in the current series, due to similar fears.

These inflationary fears are adding to Gold’s attraction, as it erodes wealth held in paper money over time, but acts to drive up the value of Gold since it is independent from any national policy and is fully convertible against any other currency.

But as the Global economy is still only in the early stages of recovery, with the US economy just beginning to gain traction after the Fed has resorted to several episodes of Quantum Easing after what was a deep and damaging recession, why is inflation presenting as a risk so soon?

The main reason for most economies is the rise in commodity and energy inflation. Unlike previous periods of economic recovery, the traditional developed nations of the west no longer have the monopoly on economic power.

Over recent years they have been joined by the large emerging economies of China, India and Brazil.

The first two are building their economic strength on manufacturing - especially China and they are voracious consumers of natural resources and energy, in particular oil. The Chinese economy faired much better than those of the US, UK, EU and Japan during the recession and kept expanding. So, now the established developed economies are starting to grow, demand for raw materials and energy is increasing from an already elevated level.

With fears that peak oil production may have already passed, the price is being pushed up and the recent uprising in the Arab world has raised the risk premium on this essential commodity.

So as the western economies struggle to respond, while at the same time deploying exceptionally lose monetary and fiscal policy designed to help growth, investors fear inflation will cause a general devaluation of national currencies, especially the US Dollar and seek a neutral hedge in Gold.

Until these inflationary pressures are contained through tighter fiscal and monetary policy, Gold looks set to rally further.

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Sterling Euro suggests further Sterling weakness

The outlook for Sterling against the other major currencies seems more or less unchanged - except against the Euro. Surprisingly, the Euro has emerged as the strongest of the leading currencies. Although the Sovereign debt crisis continues, with Portugal downgraded recently and at risk of being downgraded again and the Irish Bank crisis still rumbling on, foreign exchange traders are looking beyond these concerns...

The Technical Trader’s view:

WEEKLY CHART

The big picture is of the completion of a bull falling wedge that has formed since the beginning of 2009.

But fascinatingly, and coincidentally, note the completion of a small Head and Shoulders Reversal – adding greatly to the bull impetus.

Look more closely.

DAILY CHART

The simultaneity of the completion of the H&S Reversal is clear.

Note too, the importance of the band 0.8654-8672. Initially, this was resistance overcome and then good support. Indeed, the catalyst for the completion moves.

Expect the Neckline currently at 0.876 to be good support on any pull-back

The Macro Trader’s view:

The outlook for Sterling against the other major currencies seems more or less unchanged - except against the Euro.

Against both the Dollar and the Yen, Sterling appears to be holding up reasonably well:

- In the US the fiscal position weighs on the Dollar

- In Japan the combination of the threat of further G7 currency intervention and the possibility that, away from Japan, the monetary policy cycle is close to turning. The ECB is talking up the need for higher rates and the US QE2 policy is close to completion so the Yen currently looks depressed.

Surprisingly, the Euro has emerged as the strongest of the leading currencies. Although the Sovereign debt crisis continues, with Portugal downgraded recently and at risk of being downgraded again and the Irish Bank crisis still rumbling on, foreign exchange traders are looking beyond these concerns.

They see:

- The Euro zone economic recovery being powered by a strong Germany.

- Germany taking the lead in how the Euro zone rescue fund should operate and dictating terms about how debt laden states can access those funds.

- The ECB becoming increasingly restive about inflation,

- The chance that Euro zone interest rates will rise as early as April (next week).

In the UK, the Government has taken bold steps to reign in runaway public debt, but risks a serious economic slowdown if the private sector is unable to fill the void created by drastic spending cuts and labour shedding.

But what really undermines Sterling, especially against the Euro, is the poor inflation comparison and the Central Bank response to it.

In the UK inflation never collapsed as frequently forecast by the Bank of England, even though in the Euro zone and US it fell so far deflation wasn’t just a risk but almost a reality. Now UK inflation stands above 4% and policy makers openly suggest it could rise to 5% this year. Compared to the CPI target of 2%, interest rates should already be increasing, but the Bank is nervous.

The majority of policy makers fear that if they tighten policy at the same time the government is implementing draconian spending cuts, the economy could be tipped back into a deep recession. Underpinning their decision to wait and see, is the belief that current inflation is a result of one-off shocks:

- The VAT increase introduced this year,

- The depreciation of Sterling during the financial crisis/recession, and

- The spike in energy and commodity prices.

If they are right, then statistically inflation is set for a sharp fall, but are they blind to current events?

The oil price is still rising and could rise very much further given unrest in the Arab world and new fears about the safety of nuclear power. This is feeding into food costs. Additionally, because of the policy stance in the UK and its great leap into the unknown, Sterling could depreciate further.

In short, the Pound is undermined against the Euro by uncertainty and until it becomes clear, whether or not the current policy mix is working, the Pound looks set to weaken further against a Euro supported by expectations of higher interest rates.

Mark Sturdy

John Lewis

Seven Days Ahead

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