Reversal In The Dollar And How You Can Profit

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Reversal In The Dollar And How You Can Profit

The Trade War Escalates

Over the course of the last week the dollar has shot to a new high, hit resistance, and fallen back to support. The move was driven by data, shifting FOMC policy outlook, the FOMC statement, and now, escalating trade war conditions. What we have for certain is a dollar with increasing volatility, the ultimate direction of that volatility is yet to be determined. The underlying fundamentals scream for a stronger dollar, the U.S. economy has so far been resilient while that of the EU, UK and Japan less so. The risk is that, with the new round of tit-for-tariff, the U.S. economy will begin to fell more pain.

This week there is virtually no economic data to sway the market. There is some, don’t get me wrong, but no piece is that important, important enough to shape the market’s outlook and assuage fear of global slowdown. For now, the DXY is still above support and looks like it is in an upwardly biased trend. The index is above the top of a previous range and the indicators are consistent with underlying strength if not upward continuation of trend. The $97.50 looks like a good entry point for new positions, the index may bounce from this level or fall through. A bounce is likely to move up and retest $98.50, a break through of support could lead the index down to $97.50 or $96.00.

The EUR/USD has effected what looks like a nice rebound/reversal in prices. I will caution you though, the pair is merely retracing a recent fall through support to retest resistance at that previous support level. The long-term outlook is for the dollar to appreciate because the EU economic slowdown is worse than in the U.S., the ECB is still expected to reduce rates and stimulate the economy, the FOMC is no longer expected to cut rates three times this year, and the Brexit is coming up. Resistance should be near 1.2000, once confirmed look for the EUR/USD to fall back toward 1.105. If the pair breaks through support a move to 1.2910 is possible.

The USD/JPY sank to a new long-term low in early Monday trading as safe-haven inflows drive the yen. The pair is heading down toward the 105.00 region where it is likely to bounce. This level has provided strong support in the past and there is still dollar strength to consider. Safe-haven inflows can only suppress this currency for so long. Longer-term, I expect the USD/JPY will continue to trade sideways within its multiyear range.

Trading the NFP V-Shaped Reversal

As many experienced traders have learned, the NFP report is notoriously difficult to trade successfully. For one, the headline employment number is particularly difficult to predict due to the high margin for error. Counter-intuitively, a strong report often leads to weakness in the U.S. dollar (USD). This is because a large increase in U.S. employment is indicative of a growing global economy, which can prompt traders to sell safe-haven currencies like the U.S. dollar and buy higher-yielding currencies from other regions.

What causes the V?

Typically, economic releases lead to relatively straightforward outcomes in the market. For instance, if GDP growth expands more quickly than expected in Australia, the Australian dollar (AUD) will rally the vast majority of the time. The NFP report, on the other hand, is infamous for “V-shaped” reversals in the wake of the release, where the market initially spikes sharply in one direction before reversing in the following 10-120 minutes and heading in the other direction for the remainder of the day.

EUR/USD (5 minute chart)

So how do you trade the V?

Rather than trying to anticipate both the NFP number and the market’s reaction, wait until after initial volatility in the wake of the release settles down and try to catch the V-shaped reversal, which could offer a very favorable risk-to-reward ratio on a trade.

Though a reversal is not inevitable (nothing in trading is), even catching a reversal 33% of the time can lead to a profit if the trader utilizes a strong risk-to-reward ratio. To further improve the probability of catching a reversal, traders should wait for a reversal candlestick pattern on the 5-minute or 15-minute chart.

An example trade

For a quick example, let’s look at the chart below. The NFP report printed at 146k, handily beating expectations of 89k. After initially dropping about 35 pips in the first 10 minutes, the EUR/USD put in a Bullish Pin Candle on the 5min chart, suggesting a possible shift from selling to buying pressure.

This candlestick pattern was the signal to get into the trade; an entry near the close of the candle (around 1.2890) with a tight stop below the low (near 1.2875) would have given a low 15 pips of risk. As we can see, the pair eventually rallied all the way up to 1.2950, over 60 pips above the entry signal.

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While not all NFP reports will lead to such a sharp reversal (and traders generally won’t capture every pip of potential profit), this style of trading could offer trades with strong risk-to-reward ratios, allowing you to trade NFP without having to guess at the number or its market impact.

Silver’s Breakdown, Miners Reversal, and Profits – Lots of Profits

Silver just plunged to our initial target level and reversed shortly after doing so. It was for many months that we’ve been featuring the above silver chart along with the analogy to the 2008 slide. People were laughing at us when we told them that silver was likely to slide below $10.

Well, today’s low of $11.80 proves that we were not out of our minds after all. Our initial target was reached, and as we had explained earlier today, the entire panic-driven plunge has only begun.

Those who were laughing the loudest will prefer not to notice that silver reversed its course at a very similar price level at which it had reversed initially in 2008. It was $12.40 back then, but silver started the decline from about 50 cent higher level, so these moves are very similar.

This means that the key analogy in silver (in addition to the situation being similar to mid-90s) remains intact.

It also means that silver is very likely to decline AT LEAST to $9. At this point we can’t rule out a scenario in which silver drops even to its all-time lows around $4-$5.

Crazy, right? Well, silver was trading at about $19 less than a month ago. These are crazy times, and crazy prices might be quite realistic after all. The worst is yet to come.

Let’s quote what the 2008-now analogy is all about in case of silver.

There is no meaningful link in case of time, or shape of the price moves, but if we consider the starting and ending points of the price moves that we saw in both cases, the link becomes obvious and very important. And as we explained in the opening part of today’s analysis, price patterns tend to repeat themselves to a considerable extent. Sometimes directly, and sometimes proportionately.

The rallies that led to the 2008 and 2020 tops started at about $14 and we marked them both with orange ellipses. Then both rallies ended at about $21. Then they both declined to about $16. Then they both rallied by about $3. The 2008 top was a bit higher as it started from a bit higher level. And it was from these tops (the mid-2008 top and the early 2020 top) that silver started its final decline.

In 2008, silver kept on declining until it moved below $9. Right now, silver’s medium-term downtrend is still underway. If it’s not clear that silver remains in a downtrend, please note that the bottoms that are analogous to bottoms that gold recently reached, are the ones from late 2020 – at about $27. Silver topped close to $20.

The white metal hasn’t completed the decline below $9 yet, and at the same time it didn’t move above $19 – $21, which would invalidate the analogy. This means that the decline below $10, perhaps even below $9 is still underway.

Naturally, the implications for the following months are bearish.

Let’s consider one more similarity in the case of silver. The 2020 and the 2020 – today performance are relatively similar, and we marked them with red rectangles. They both started with a clear reversal and a steady decline. Then silver bottomed in a multi-bottom fashion, and rallied. This time, silver moved above its initial high, but the size of the rally that took it to the local top (green line) was practically identical as the one that we saw in the second half of 2020.

The decline that silver started in late 2020 was the biggest decline in many years, but in its early part it was not clear that it’s a decline at all. Similarly to what we see now, silver moved back and forth with lower highs and lower lows, but people were quite optimistic overall, especially that they had previously seen silver at much higher prices (at about $50 and at about $20, respectively).

Also, if you didn’t profit on the recent decline in silver, don’t despair – this decline seems to be far from over and there will be plenty of room for profits, especially that silver seems to be starting a corrective upswing now. Just like it did in the 2008. Back then, it corrected to about $14 before moving lower and this might be a realistic target also this time. This would serve as a verification of the breakdown below the 2020 low, and it would open the way for even lower silver prices.

Meanwhile, silver’s relationship with gold continues to support medium-term downtrend in the precious metals sector.

Remember the time, when the gold to silver ratio moved to 80 and practically everyone (well, we didn’t) told you to buy silver? We told you that the real long-term resistance was at the 100 level, and that the gold to silver ratio broke above the previous highs, it was likely to shoot up. That’s exactly what happened.

Last week we wrote about the move to the 100 level in the following way:

We’ve been writing the above for weeks, despite numerous calls for a lower gold to silver ratio. And our target of 100 was just hit today. It was only hit on an intraday basis, not in terms of the daily closing prices, but it’s still notable.

We had been expecting the gold to silver ratio to hit this extreme close or at the very bottom and the end of the medium-term decline in the precious metals sector – similarly to what happened in 2008. Obviously, that’s not what happened.

Instead, the ratio moved to 100 in the situation where gold rallied, likely based on its safe-haven status, and silver plunged based on its industrial uses.

Despite numerous similarities to 2008, the ratio didn’t rally as much as it did back then. If the decline in the PMs is just starting – and that does appear to be the case – then the very strong long-term resistance of 100 might not be able to trigger a rebound.

It might also be the case that for some time gold declines faster than silver, which would make the ratio move back down from the 100 level. The 100 level could then be re-tested at the final bottom.

Or… which seems more realistic, silver and mining stocks could slide to the level that we originally expected them to while gold ultimately bottoms higher than at $890. Perhaps even higher than $1,000. With gold at $1,100 or so, and silver at about $9, the gold to silver ratio would be a bit over 120.

If the rally in the gold to silver ratio is similar to the one that we saw in 2008, the 118 level or so could really be in the cards. This means that the combination of the above-mentioned price levels would not be out of the question.

At this time it’s too early to say what combination of price levels will be seen at the final bottom, but we can say that the way gold reacted recently and how it relates to everything else in the world, makes gold likely to decline in the following months. Silver is likely to fall as well and its unlikely that a local top in the gold to silver ratio will prevent further declines.

Indeed, gold to silver ratio didn’t stop the decline and it’s unlikely to stop it anytime soon. The reason is that the ratio broke above the 100 level and today, it soared above it even more. At the moment of writing these words, the gold to silver ratio is trading at about 120.

Breakout above the resistance level as extremely important is very likely to be followed by at least a pullback. A comeback to this level (100) and then another move up seems to be the most likely outcome.

This means that silver would be likely to recover – and it would be likely to recover more than gold.

Thank you for reading the above free analysis. It’s part of today’s timely Gold & Silver Trading Alert. We encourage you to sign up for our free gold newsletter – as soon as you do, you’ll get 7 days of free access to our premium daily Gold & Silver Trading Alerts and you can read the full version of the above analysis right away. Sign up for our free gold newsletter today!

Przemyslaw Radomski, CFA

Editor-in-chief, Gold & Silver Fund Manager

Sunshine Profits – Effective Investments through Diligence and Care

All essays, research and information found above represent analyses and opinions of Przemyslaw Radomski, CFA and Sunshine Profits’ associates only. As such, it may prove wrong and be subject to change without notice. Opinions and analyses were based on data available to authors of respective essays at the time of writing. Although the information provided above is based on careful research and sources that are believed to be accurate, Przemyslaw Radomski, CFA and his associates do not guarantee the accuracy or thoroughness of the data or information reported. The opinions published above are neither an offer nor a recommendation to purchase or sell any securities. Mr. Radomski is not a Registered Securities Advisor. By reading Przemyslaw Radomski’s, CFA reports you fully agree that he will not be held responsible or liable for any decisions you make regarding any information provided in these reports. Investing, trading and speculation in any financial markets may involve high risk of loss. Przemyslaw Radomski, CFA, Sunshine Profits’ employees and affiliates as well as members of their families may have a short or long position in any securities, including those mentioned in any of the reports or essays, and may make additional purchases and/or sales of those securities without notice.

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