It was another wild ride in the financial markets last week. Sharp deterioration in market sentiments started with renewed selloff in the Chinese stock markets and spread to the world quickly. DJIA suffered the worst weekly selloff in four years and ended the week down -1017.65 pts, or -5.8% at 16459.75. S&P 500 dropped -81.2 pts, or -4.0% over the week to close at 1970.89. China's Shanghai composite closed 3507.74, just inch above the 3507.19 close made in the Jun/Jul crash. Investors were deeply concerned with the impact of the down turn in China's economy on the world as a whole. Also, there were deep worries that China's desperate move to devaluate its currency earlier this month could trigger a currency war with other emerging markets. As a result of the turmoil in the financial markets, traders continued to pare back expectation of a September rate hike from Fed and thus, gave much pressure to the greenback.
We've talked about the trend reversal in US equities for some time already. And finally, the anticipated downside acceleration happened to confirm our bearish view. At this point, we're viewing price actions from 18351.36 as a medium term corrective pattern. It could be the fourth wave of the five wave sequence from 2009 low at 6469.95. The long term channel should be taken out with ease and deeper fall should be seen to 38.2% retracement of 10404.49 to 18351.36 at 15315.65. Initial support is expected around 15315.65 to contain downside and bring rebound. We'll than assess whether the correction would be a sideway pattern between 15315 and 18351, or would it go deeper to 38.2% retracement of 6469.95 to 18351.35 at 13814.78. But in either case, stocks will stay bearish in near term, at least till Q4. And that would give the greenback much downside pressure.
The chance of a rate hike by Fed in September is quickly fading. Right after the release of FOMC minutes last week, markets were pricing in slightly more than 30% chance of a September. And that should be much lower after the steep selloff in stocks on Thursday and Friday. Indeed, while markets might still be pricing in more than 50% chance of a December hike, some economists were already predicting that Fed will hold off its hand till next year. Some policy makers still talked about the need for a hike, like St Louis Fed James Bullard. Richmond Fed Jeffrey Lacker also scheduled a talk titled "The Case Against Further Delay" on September 4. But the critical one would like be Fed vice chair Stanley Fischer's talk at Jackson Hole on August 29. We're not expecting Fischer to sound hawkish at the speech and thus dollar would likely stay weak for the rest of the month at least.
Nonetheless, weakness of the greenback was mainly centered against Euro, Swiss Franc and Yen. Sterling was under much pressure too as expectation for BoE hike dimmed. Aussie was weighed down due to its close trade relationship with China. Canadian dollar was also weighed down by persistent weakness in crude oil, which breached 40 handle last week.
The selloff in the dollar index was as expected. As noted before, fall from 98.33 is viewed as the third leg of the medium term correction from 100.39. Deeper decline is expected to 93.13/56 support zone first. Such decline would likely extend to 100% projection of 100.39 to 93.13 from 98.33 at 91.07 before completion. And, we'll now hold on to this bearish view as long as the index stays below 55 days EMA (now at 96.53).
Regarding trading strategy, we entered EUR/USD on break of 1.1215 resistance last week. The idea is so far correct. Based on current momentum, EUR/USD is likely resuming the medium term rise from 1.0461. 1.1466 resistance should be taken out with ease. We'll hold on to long position and ride on this trend until the pair get close to next key cluster level. That is, 1.1810/1, 100% projection of 1.0461 to 1.1466 from 1.0807 at 1.1812 and 38.2% retracement of 1.3993 to 1.0461 at 1.1810. We'll put a stop at 1.1215 this week first and trail it ahead. The plan is to start looking tightening the stop above 1.1800. Meanwhile, we'd prefer not to chase the trend in other pairs for the moment and look for opportunity again on a pull back.