After a week of some truly violent moves in the Japanese Yen, forex markets seem likely to slow down in the week ahead. How might we trade such a slowdown?
DailyFX PLUS System Trading Signals
Volatility prices have dropped as markets seem likely to catch their breath after last week’s panic-driven forex moves. Yet everything’s relative -- even slower price moves haven’t stopped the USDJPY from rallying over 400 pips from last week’s lows. What’s our next move?
I wrote last week that it seemed we were in the early stages of a market deleveraging, and big volatility would likely result in substantial Japanese Yen strength. That forecast worked out better than I could’ve reasonably imagined as we saw carnage in the extremely crowded JPY-short trade (USDJPY long). If I’m right in calling for a slowdown in FX market moves, we’ll likely see (and have seen) the opposite: a USDJPY bounce and broader Dollar recovery.
Short-dated forex volatility prices (chart below) have come off of recent peaks, while more medium-term expectations have remained relatively steady.
That makes short-term trading admittedly a bit confusing: we don’t want to lose sight of the fact that forex market conditions have likely seen a substantive shift.
Source: OTC FX Options Prices from Bloomberg, DailyFX Calculations
Past performance is not indicative of future results, but our sentiment-based trading strategies have done well amidst recent moves. The risk is obvious as nothing moves in a straight line, and it would be natural for the same strategies to give back some of their recent gains. In other words: now is probably not the time to press our trades.
Strategy preferences remain roughly unchanged with a couple of key caveats. Our Breakout2 trading system had a banner week of performance on the massive Japanese Yen surge and could potentially do well across a number of pairs. But it would be poorly positioned for a JPY pullback (currently underway) as it has historically done poorly amid sharp market reversals.
Our major preference thus turns to the Momentum2 strategy -- also known as the “Tidal Shift” system. It was named “Tidal Shift” because it was designed to catch major market reversals. And if this is indeed the start of key short-term reversals, it could potentially do well across key JPY and US Dollar pairs.
View the table below to see our strategy preferences broken down by currency pair.