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Risk On! Risk On! Bond and Currency Charts Are Not All in Agreement, Though

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Are key bond and currency charts telling us to get involved on the long side without any cares? Not quite yet.

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MINYANVILLE ORIGINAL So, last night at 11 o'clock or so, I was watching as the votes were counted electronically on the floor of the House of Representatives. I think most of us breathed a sigh of relief (at least for the short-term) even as many of us were distressed about the lack of substance in the deal that was made. I knew we would see a "risk on" day even as I watched last night. The question was / is, "Will it last for more than a day or two?"

I noted in the reports I sent out last week and Monday to subscribers of the Sea Change Report that the key of any rally that might occur will be to study the market internals right along with the actual price levels of the various indices and markets. That advice has not changed. For my part, I'm giving you some key levels to watch carefully into today's close.

Now onto the charts.

BONDS

Treasury yields are reflecting "risk on" trade, but are at a crossroads for the short-term.

The yield on the 10-year US Treasury Note (INDEXCBOE:TNX) (shown in the two charts below) was a good guide for everyone over the last few weeks. Despite all of the convulsing in either direction by stocks and commodities, Treasury yields never really gave me the impression that the risk markets were in big trouble. Treasury yields did pull back, but they easily held key support before Monday's rally.

Now yields have shot back to the upside. However, TNX is running right into key short-term resistance at 1.847%. This obstacle is created by the horizontal line of resistance that has existed since last May (see the yellow boxes on the charts). There are two potential scenarios I want to lay out – one is very bullish for risk assets in the short-term and one is less so (although I would not call it bearish).

The first chart below shows the TNX completing a wave "(((v))) & ((i))" this morning. That would make sense due to the horizontal line resistance mentioned above and because wave (((v))) would then roughly match wave (((i))) in magnitude. This scenario would have a mild pullback in rates (and likely risk assets) commencing very soon and at or very near current levels. The pullback in rates would have probably downside targets of 1.744% and 1.7%. Such a pullback in rates would probably be accompanied or caused by a corresponding pullback in stock and commodity prices. The good news for the bulls is that even in this less bullish scenario, there will be more upside ahead once the pullback is over.

The minimum intermediate-term to long-term rate target for the TNX is 2.031% and it could be all the way up to 2.21% or even 2.321% under this scenario. Clearly, even the lowest of the three potential targets being hit would mean happy days for owners of all types of risk assets.


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The second, more bullish scenario for the risk bulls is that the TNX completed wave ((i)) on December 19 and wave ((ii)) last week and that what we are seeing right now is the early stages of wave ((iii)) higher. In this case, no short-term pullback should be expected and the yield on the 10-year should instead be expected to continue to run to at least the 2.044% level and maybe up to the 2.103% level before wave ((iii)) ends. This scenario would still have the 2.21% to 2.321% longer-term targets on the upside, but would eliminate the 2.031% level as a consideration. To me, if 1.847% is taken out on the upside, this more bullish scenario will be the one that is likely playing out.


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Overall for bonds:

The message here is that we can feel better about the intermediate-term for risk assets, but we need to monitor the TNX closely at current levels to see if it decides to pullback to 1.744% or blow right through this resistance in the more bullish scenario. I write "we need to" monitor this closely because the bond market is bigger and involves bigger players than the stock market. The action there tends to be more "true" than in stocks (even with the outside intervention of the Fed). What happens with bond yields will be very helpful in either giving us the green light in terms of taking on risk assets or giving us the short-term "be patient" signal.

CURRENCIES

EURUSD remains slightly above support – not following through, though.

The euro / US dollar currency cross – which many global participants watch as part of the "risk" trade – remains ever so slightly above the 1.31716 support (previous resistance) level. Once EURUSD managed to close above that level, I would have thought that we would see a strong follow through and continued march up towards the 100% Fibonacci price projection line at 1.36294. As of yet, that has not happened – even with the news overnight that the US government is going to continue to remain on the current road of "tax a bit, spend a lot." So, one has to wonder...

Maybe the chart below is setting up like the less bullish of the two Treasury charts I highlighted earlier. In this case, the September peak would have been wave "iii" and the peaks over the last two weeks were actually wave "v" as opposed to the way the chart below is labeled. Even in that case, just as with the Treasury chart, only a modest pullback would be anticipated before the EURUSD made its way higher. Modest or not, a pullback of 1% or so in other markets is insignificant, but in currency terms can be painful if you bought just prior to the pullback beginning.

So, I believe the play here is to key off of the combined action in bonds, stocks, and the EURUSD to get the trade right. If we see bond yields take out resistance, stocks take out resistance (or put more distance between themselves and support in the case of EFA and EEM), and EURUSD remain above support, it may be safe to be long / get long of EURUSD for the rest of the anticipated upside. If any of those other asset classes fails to confirm, there still may be some danger of a short-term pullback.


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Aussie crosses acting strong today as well – one better off than the other technically.

The Aussie dollar / Japanese yen currency cross (AUDJPY – show below) is breaking out beautifully above the 90.020 "correction resistance" level. If it can hold that breakout into this weekend, look for some more upside action – likely up to the 91.998 to 94.149 range (before some consolidative action commences). I would not advise going heavy long of AUDJPY (if you aren't already) given the fact that the lower of the two resistance levels is relatively close to current levels. Instead, wait to see how high it goes, then wait for the correction / consolidation and look to accumulate AUDJPY then.

If the breakout holds into the weekend, the technical ramifications are for much more upside in the interemediate to long-term – you just have to enter your long-side trade wisely (on the dips) due to the heavy leverage involved in forex trading.


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Meanwhile, the Aussie dollar / US dollar cross (AUDUSD) is rallying hard today – but right up to the underbelly of the recently broken uptrend line. If I didn't know anything about how any other charts were looking, I would say this is very nearly a perfect set-up for short-sellers. You not only have the broken uptrend line, but also the longer-term, very formidable downtrend line resistance as well.

So, if you're a trader, you short the AUDUSD here with a downside target (for profit-taking) of 0.99665 and a stop-loss triggered on any close above today's high of 1.05233 (that's about $350 - $500 at risk with about $3,000 of initial margin required and over $5,000 in profit potential). If all you have is a small forex account ($10,000 or less), don't do the full $100,000 notional value on the trade. Do a fraction of that; the reward to risk is still 10:1 even if you're trading a fraction of that ($100,000 notional value).


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The Japanese just continue to lean all over their own currency. How long will this continue?

I have been happily correct in my bullish call on the US dollar / Japanese yen currency cross (USDJPY) and the iShares Japan ETF (NYSEARCA:EWJ). Is the trade getting "long in the tooth" yet? Normally, I'd say "yes" and be taking profits. But consider what's driving this action – the Bank of Japan and the powers that be in Japan wanting to re-flate their economy by whatever means necessary.

The chart below shows Japanese yen futures (@JY – the top graph) and the Nikkei 225 futures (@NK – bottom graph). To me, the Japanese government has made it clear that they've had about enough of this miserable economic / market condition in which they've been mired for all these years. If we are to believe that they will continue to keep their collective foot on the gas pedal until they achieve the desired result, then what's to stop them from driving the yen down to the 2007 levels (at roughly 0.8686 - from current levels of 1.149)? That's where the yen was trading when the Nikkei was up at 18,755 in 2007 – and we all know that the Nikkei was much, much higher than that in previous years / decades.

The big tell will be to see if yen futures violate the dual support (created by the 100% Fibonacci price projection line or "correction support" and the 38.2% Fibonacci retracement (of the 2007 – 2011 rally) line) at 1.14 or so. If that level is broken, the yen is going much, much lower over the course of the next few years. Until that happens, those trying to pile on to this bearish yen trade had better tread lightly because of the meaningful support nearby and the very oversold condition that exists in the short-term. As always, look to sell rips in a bearish chart situation – don't chase the dips!


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Franc / krona cross was the truth teller once again over the last week or so.

I mentioned here recently that my proprietary indicator using the strength / weakness of the Swiss franc versus the Swedish krona had gone "bullish" for risk assets by breaking out above the downtrend line. Now that the breakout of the downtrend took place, we measure back from the recent low on December 14 to estimate when an explosive rally in stocks may ignite.

Based on the last bullish change in direction and corresponding ratio low (see the thick green vertical line in April 2012 in the chart below) and the subsequent low / take-off point for stocks – which were nineteen days apart – today should have been the beginning of a meaningful rally that lasts for more than a few days. If I were basing everything off of this indicator alone, I would be expecting a rally to last three-and-a-half to six months and to move 15% to 30%. But alas, I am not basing my decisions on one indicator alone (nor should you) – it's just something to keep filed away for future reference.


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Overall for currencies:

Things are a bit less bullish here than in bonds or stocks. The EURUSD is seemingly trying to give back the morning's breakout extension and the AUDUSD is setting up perfectly for short-sellers. On the positive side of the ledger, the AUDJPY is looking good and the franc / krona indicator is singing a sweet song for the bulls. Overall, I'd say I'm reading currencies as positive for the risk bulls, but with one eye on some of the caution flags (which may be foretelling a short-term pullback in risk assets).

PUTTING IT ALL TOGETHER

We all need to be watching the 1.847% level on the 10-Year Treasury yield closely today and over the next couple of sessions. A break above that level – especially on a weekly closing basis – could open the flood gates for more "risk on" action. I'm sure the action in the currencies will be corresponding well with whatever we're seeing in Treasuries – so keep an eye on these very large, very liquid, very truthful markets for clues on how stocks and commodities may be trading in the near future.

Twitter: @tttechnalytics

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