The “Horrifying” Impact That Coronavirus Will Have on the Markets (and How to Profit From it?).
One thing that's very much on everybody's mind is the spread of the coronavirus contagion.
Recently we learned that it's spread to South Korea and Italy and that it's becoming a worldwide phenomenon. The virus is already having an impact on the markets.
Now I'm always asked if I trade outlier events like this. But to my mind, the market always establishes a structure before it moves. That means that when we have phenomenons like the coronavirus, these tend to be catalysts for moves where the market has already “pre-indicated” these moves are likely to happen. For example, gold soared this past week. However, there was already a huge bottoming pattern that indicated gold was going to go in a certain direction (I’ll cover gold later in this Report).
The lesson to be learned here is that to understand where moves are likely to happen (and when) is by looking at preceding trends and price patterns.
So let’s start by looking at the U.S. Dollar Index (USDI) first. USDI measures the U.S. dollar against half a dozen major currencies.
As you can see, the major trend for the last several years has been higher.
However, USDI hit a pocket of resistance around last October before recovering to reach spitting distance of its January 2017 highs set three years ago.
Even though USDI went all the way to its resistance high before falling back in last week's trading session, I’m still bullish.
That’s because the long-term uptrend plus the mini-double bottom and inverted head and shoulders USDI indicates this bull run is not over. The strengths of these patterns should win out against the resistance we’re likely to see in the short term. I think there’s still a lot more dollar strength to come.
And when you look at charts like the Euro, the Australian dollar and the New Zealand dollar, USDI surely isn’t done rising yet.
So here’s EURUSD (the Euro versus the U.S. dollar) where it’s clear the major trend has been down:
Now trends do end eventually, but generally, they establish a recognizable reversal pattern before they do so. I don't see any such pattern yet with EURUSD. To my mind, the dominant governing pattern is the bearish double top. Ever since we cracked that pattern’s neckline around 1.15, EURUSD has ground steadily lower.
Last week EURUSD did have a bullish mini key reversal (that’s when the price makes a new low but closes near the high). I've learned to respect these key reversals. However, all key reversals are not created equal. I look at these key reversals with respect to the preceding trend and pattern.
This mini key reversal might spark the formation of a bottom and a major reversal in EURUSD. That would obviously be a significant event. And certainly, if EURUSD cracked 1.12, I would start to think there’s a turnaround happening.
However, this is just EURUSD finding some support at historical support areas. There’s a lot of price history between 1.04 and 1.08. That means any downward progress through these areas will inevitably be choppy. But the trajectory remains unchanged.
In fact, you can see that EURUSD slid ground lower after similar bullish key reversals in the recent past. If EURUSD does rise a bit in the next few weeks (as it has before), it’s just another opportunity to short this market before it once more continues trends down.
For the last several weeks. you've been hearing me say the Australian dollar is the weakest currency on the board. Here’s AUDUSD (the Australian dollar against the U.S. dollar) which is even weaker than EURUSD:
The real story is the huge downtrend from 95 cents to around 66 cents today, complete with a double top governing pattern along the way. Once AUDUSD cracked the 75 cent area at the neckline of the double top, it was a green light for another move lower.
With last week's activity, AUDUSD has just established multi-year lows. This opens a huge path lower in the pair and I would short any rallies that appear in expectation of even lower lows to come.
To see why I’m so bearish, let’s quickly review a couple of Australian Dollar correlated trading pairs so you can see how weak this currency really is.
Here’s AUDCAD (the Australian dollar versus the Canadian dollar) with a notable double top or triple top at the 1.02 price level.
Those tops were the governing price pattern. Since that point (and despite numerous attempted rallies) AUDCAD has made only lower highs. The price action has finally delivered multi-year lows.
Meanwhile, AUDCHF isn’t far off multi-year lows either:
Another AUD-related pair I really like is GBPAUD (the British pound versus the Australian dollar)
If the pound is going to stay relatively stable and the Australian is going to keep weakening, this pair will soon be setting new highs.
(If you’re confused that this pair is going higher while the others were going lower, note that the other pairs had AUD as the first currency of a currency pair -- the base currency, as in AUDUSD, AUDCAD, AUDCHF -- while AUD is the second currency in GBPAUD and is, therefore, the quote currency instead. AUD being weaker means GBPAUD rises here because GBP is gaining strength against a weaker AUD.)
On a fundamental basis, New Zealand and Australia are close trading partners with China. As China's economy starts to slow thanks to the coronavirus effect, this may have a huge impact on these two economies and therefore their currencies too.
But again, I don't like to read into current events. I prefer to look at price action. This is just another example of how price action often precedes news.
The price action in GBPAUD was showing all the way back in the 2017 - 2018 timeframe in this chart with a triple bottom as the governing price pattern. There were some huge momentum swings along the way, but ultimately these setbacks created buying opportunities within a mega uptrend in GBPAUD.
GBPAUD recently broke above multi-year highs and since then has been consolidating with some narrow range inside bars. Such bars represent coiling of energy which will likely serve as a launching pad for vertical price action at some point in the near future.
Keeping in my comments about the New Zealand economy’s relationship to China, let’s look at GBPNZD (the pound versus New Zealand dollar) too:
As the New Zealand dollar continues to weaken against most other currency pairs, this is another pair I really like for its upside potential.
Of course, me being bullish on GBPNZD is no mystery if you've followed me for any length of time. I've been yelling from the mountaintops ever since GBPNZD formed a double bottom in late 2016, early 2017 and then crossed the neckline for that pattern.
That double bottom (and the subsequent rounding bottom) has set the stage for a multi-year bull run by acting as a huge foundation and launching pad for GBPNZD to traverse higher. Right now GBPNZD is consolidating right at multi-year highs after carving out a new double bottom.
Anything above the current resistance area should break the glass ceiling that’s been holding this pair so far.
That’s why a breakout could unleash all kinds of energy once GBPNZD gets going. That’s why I’ve advised our members to hold long positions in both GBPAUD and GBPNZD for quite some time, despite the fact that we've had recent setbacks from the highs.
Of course, a 500 pip correction isn’t easy to take. But if you keep everything in perspective, you can see that the governing patterns will ultimately dictate the future price action. The trend is still very strong in our favor here with GBPNZD.
One USD pair that I'd like to spend some time on is one that I've made all kinds of money on betting primarily on the short side.
Although I will take countertrend rallies. I didn’t take the most recent bull rally in USDJPY. However, this rally has certainly done some surprising things.
I’ve been bearish on this pair for so long because of the governing pattern, which is the double top as part of the head and shoulders at the left of this chart. Since then, the descending triangle has confirmed that bearishness.
But as you can see, last week USDJPY broke out above the descending triangle. Now we have to watch to see if this momentum will continue with a genuine rally, or if it’s just a bull trap where prices get going and then collapse back into the prevailing pattern. I don't think we'll have to wait too long as to which answer is correct.
While my first instinct is that this is a fakeout before prices drop once again, we could also be looking at a “busted” pattern where the market starts going in the “wrong” direction as indicated by the pattern. For now, we'll just have to let prices lead us to the ultimate story.
Here’s another way to look at USDJPY price action with a symmetrical triangle rather than a descending one:
Even with a symmetrical triangle, this price action resembles a breakout. Ordinarily, such breakouts would signify a major trend change. But in this case, I'm going to give the market some time. I'm sitting on the sidelines here because I want to see how USDJPY behaves in the resistance area it’s just hit.
You can see USDJPY knocked on that door last week. If bullish price action continues, that will certainly indicate a breakout. Alternatively, if prices collapse by the end of the week, that would indicate a fakeout instead.
Now I’ve been a bit conservative lately because I've been personally focused on trading the pound correlated pairs, specifically GBPNZD and GBPAUD. That means I've missed a whole bunch of moves in USDJPY and gold. However, all is not lost here. While I’ve been slow on the trigger with USDJPY, it remains to be seen if this really is a genuine breakout.
If it is, there’s still plenty of time to catch the next ride.
Now here’s XAUUSD (spot gold) which rallied enormously last week:
On concerns over the coronavirus contagion, gold broke out of its recent congestion area.
However, never mind all the coronavirus news headlines. You can see that XAUUSD’s price patterns have been bullish for quite some time. The governing pattern is the double bottom with multiple shoulders on each side of that double bottom (this is called a complex inverted head and shoulders and I’ve drawn a line example on this chart to be sure you can see it).
Once gold got past the neckline of that pattern at $1,380 (a multi-year resistance area) gold was in a bull market and set to keep going higher.
However, there's a lot of multi-year resistance between $1,700 and $1,800. For that reason (and my concerns about silver) I’m cautious about this market at the moment.
That’s because the on-going 'red flag" in the precious metals asset class has been the lagging price of silver (XAGUSD).
Here’s a chart of XAGUSD:
For the last several weeks I've been saying that silver is in a “prove it” mode, meaning that if silver really is ready to escape its bear market, then it needs to giddy up and go and prove that everything up into now has been part of a massive bottoming pattern.
For now, silver is still showing no better than a series of lower highs over a long period of time.
I will turn bullish once XAGUSD starts leaping past historical highs at the $19.60 and $21.15 area. Getting past those would represent a true breakout and a new silver bull market.
We're not too far from silver proving this one way or another. Either it's going to burst through these resistance areas or else fail once again to reverse a long-term trend of lower highs.
Now for the stock market.
For the first time in several months, we saw a break in the seemingly endless upward momentum of the U.S. stock market. This is the NASDAQ 100 which primarily reflects the tech sector in the United States:
This market has been a phenomenon of trees growing to the sky. At some point, we know that trees don't grow that high. Perhaps the coronavirus will be the “reason” for the end of the bull market, but ultimately the “reason” doesn’t matter. The NASDAQ had a meaningful pullback after making a new high to create a key reversal.
In other words, it made a new high but close at or near the low of the week.
The bigger the reversal, the more powerful it may be. What’s interesting is that volatility has started to expand.
In the past, the weekly bars were relatively small as the NASDAQ traded within the narrow confines of an uptrending channel. However, the bars have started to get longer.
That’s important because when you have an increase in volatility, it usually precedes a shakeout. That suggests a reaction move lower. I certainly wouldn't be surprised.
That being said, this is still a bull market. So be very careful if you wish to short this market. It's going to be like taming a bucking bronco with high levels of volatility and you’ll have to be very quick to catch any moves.
Rather than a major reversal, I’m thinking that we’re more likely to see a trading range establish itself. After all, at some point, this market’s upward momentum is going to slow and we should see a consolidation. If you’re brave enough to short this market, just be careful and don’t get too greedy.
And that’s it for the week!
To summarize, I’m bullish on the U.S. dollar, bearish on the Euro and the Australian and New Zealand dollars, and very bullish on GBPAUD and GBPNZD. I’m on the sidelines with USDJPY, gold, and silver for now.
I wish everyone a healthy and prosperous trading week ahead and I'll see you next time.
Mark "MarketContagion" Shawzin