The euro is not oversold from a daily perspective but it is approaching some solid support levels that could provide quality buying opportunities.

On Wednesday, the euro’s nearly 300 pip fall against the U.S. dollar was the largest one-day fall since September of 2008. That’s worse than any single day during the European debt crisis. Without doubt, we see the euro moving lower from here in the medium term. In the short-term, however, we are nearing uptrend support and support from the June low of 1.2737.

We could see a further slide close to support on Friday, especially if U.S. retail sales disappoint. But looking to next week, there is very little on the data docket to spook the broad market. To us, that skews the risks toward a mild recovery trade. With that in mind, we would look for opportunities to buy the euro at below 1.28 with the expectations that we will see a re-test of 1.30 in the week ahead. If the euro does return to 1.30 we will be quick to take profits and initiate short positions for an eventual fall to new lows.

Our initial reaction to the stress tests is disappointment but we think the trade is to buy EUR/USD with a stop at the session lows. We would have liked to see a better stress test that included all the sovereign debt on banks books (rather than just the trading book). But what’s priced into the market? There is a €700 billion backstop on sovereign debt in Europe so there will not be a default. With economic data improving the market is pricing in a diminished chance of a double-dip recession so that is unlikely as well. The euro is down 60 pips to 1.2832 on the slightly damaged credibility of the ECB but we thought the U.S. stress tests were a sham as well (they forecast 9% unemployment in the adverse scenario). The market will turn its focus back to European and U.S. fundamentals and we believe that will reflect positively on EUR/USD in the short-term. Stop at the session lows but look for an eventual rally to 1.32. Remember that in a sentiment-driven market anything is possible so stay nimble.

The U.S. dollar has become the dog of the foreign exchange market and we expect the EUR/USD to continue rallying after a short pullback. The USD eked out only small gains against only the CAD and AUD on Thursday and experienced substantial declines against EUR, GBP and JPY. The market is beginning to grab hold of a theme that the U.S. economy will underperform expectations. Although we have seen a slight rebound from the dollar early on Friday, the overarching theme remains.

The trigger for the sudden surge in USD selling was Wednesday’s minutes of the June 22-23 meeting. In them, the Fed lowered growth forecasts and said the U.S. economy may not fully recover for 5-6 years from the Great Recession of 2007-09. Richmond Fed President Jeffrey Lacker, who is usually optimistic, even allowed that the U.S. will recover “perhaps at a pace that is less robust than has been typical of past recoveries.” Financial regulation reform, which passed on Thursday, is also making the U.S. a less competitive hub of global finance.

At the same time, the focus is shifting away from Europe. A recent sovereign downgrade of Portugal by Moody’s elicited hardly a blip in the forex market. On Thursday a successful Spanish bond sale further reinforced that a euro breakup and sovereign defaults are no longer a pressing concern.

The huge rally in EUR/USD yesterday pushed the euro above the 100-day and 100-month moving averages and points to a continued recovery in the euro. Expect the consolidation that has begun in Asia to continue as the week comes to a close. The RSI isn’t overbought and there is plenty of technical fuel for a rally but the odds favour intraday shorts on Friday.

The euro rallied to the highest since May 12 during the North American session before pulling back somewhat in Asia-Pacific trading. The catalysts were a successful Greek 26-week T-bill sale and broad risk appetite.

The rally in EUR/USD was a major technical victory. It pushes the pair definitively above downtrend resistance and above 1.2719, which is the resistance from last week’s high. The move also formed a bullish outside reversal candlestick patter. A small pullback will be a good buying opportunity but watch for resistance at 1.2766, which is the 100-month moving average.

We may be seeing a paradigm shift in the forex market. Bad news in the U.S. is no longer translating into a broad risk trade.

In the past, bad news in the U.S. would lead to a ‘risk off’ trade where the JPY was the main beneficiary but the USD also rallied against EUR and the commodity bloc. Over the past three days we have seen risk aversion coming from China and bad news in the U.S. Instead of seeing EUR/USD strength, we are seeing weakness.

Remeber that currencies are relative. Over the past 8 months, the euro has slumped based on euro-centric worries. The thinking was that European economic growth would lag U.S. growth by a large margin.

The outlook hasn’t improved for Europe but it is now darkening for the U.S. and elsewhere. Relatively, that’s a good thing for the euro.

If this is a paradigm shift, it’s major. It’s would be reminiscent of the USD during the financial crisis. Initially, the USD was falling to record lows as it appeared the crisis was limited to just the U.S. housing market. Later, when it became clear that the U.S. housing crisis was going to send the worldwide economy into recession, the USD rallied. This wasn’t good news for the USD, rather, it was relatively good news.

We are not yet saying there has been a paradigm shift but we are on the lookout. The caveat is that we are at the start of a new month and new quarter. Trading patterns often get skewed by flows. We won’t get a real idea of what is happening until July 6, when the U.S. returns from holiday.

Today’s price action was the signal we were looking for to mark the top in EUR/USD. We had a blowout to the upside that has aggressively reversed.

The main news of the day is that China will allow the yuan to appreciate against the USD. Analysts are scrambling to interpret the news and the market has been equally undecided. The U.S. dollar has been a main beneficiary on sentiment that U.S. manufacturing will be more competitive. Initially, the stock market liked the news but a stronger yuan probably means slower worldwide economic growth so that sentiment appears to have taken over.

The idea that China is curbing growth and inflation is weighing on the EUR. There is also a feeling that the entire up-move in EUR/USD was fuelled by short covering. CFTC data released late Friday shows a massive contraction in EUR net shorts so there is evidence that the slump has been little more than position squaring.

The daily chart now shows a downside reversal. We also see an inverted hammer pattern. Confirming the downside is the resistance at the top Bollinger Band, the RSI and the 50-day moving average.

We are seeing some signs of vulnerability in EUR after a streak of six rallies in seven sessions. We touched a fresh weekly high in the North American session on Wednesday but we later closed lower and EUR is down through early Asia-Pacific trading.

Technically, the RSI and Stochastics are flashing highly overbought signals. We are also well above the mid-Bolliger Band. We think any move close to 1.2453 is a wonderful opportunity to establish shorts.

Perhaps the top story in the day ahead will be the results of Spain’s efforts to raise as much as €3.5 billion through the sale of 10 and 30-year bonds. On May 20, Spain paid 4.045% in a 10-year auction but the notes are currently trading near 4.939%. The market will want a yield close to 5.00%; if it’s above 5.25%, the euro will weaken. A failed auction (where it’s cancelled due to lack of interest) would knock the euro down about 200 pips, possibly more. Another metric to watch is the bid-to-cover ratio, which shows how many times the number of bids per dollar sold. A ratio below 1.5 would be worrisome while something over 2.0 would be a positive for the euro. For the 30-year bond auction, a yield over 6.10% would be euro-negative while under 5.70% would be positive.

Spain has about €16.2 billion in debt that needs to be paid in July and Madrid will need to raise funds in order to make the payments. If, however, Spain can find access to funds at reasonable borrowing rates, it won’t have any major debt obligations to repay until April 2011. Success at today’s auctions would clear the way for 10 months and give the euro room to breathe and retrace recent losses.

The euro has started out the week by rising the highest since June 4 as it builds on a rally for the past week.

Over the past six months it has been rare for the euro to string together several up-days. We remain extremely bearish on EUR and will be using this bounce as another opportunity to sell. The question is: when is the right time to sell EUR/USD?

We noted the IMM data released on Friday. It showed EUR net shorts near record just shy of a record high. Remember that IMM data is from the prior Wednesday (in this case June 11). On that day the euro traded at 1.19 compared to 1.2178 currently.  That points to a short squeeze over the past few days. But with the market positioned so agressively short, the squeeze could still have some way to go.
We see three simple targets. 1.2334, 1.2467 and 1.2691. We don’t see the highest target as realistic. Market participants are so bearish on EUR that it will be sold long before it hits 1.26.

Looking at the Ichimoku Cloud on our 4-hour chart we think a somewhat agressive move higher to 1.2567 is possible if we get a close above the top of the cloud (on a 4hr chart).

We will have our sell orders ready, however, once it gets above 1.2334.

Note that the European Union is hosting a summit beginning Thursday. The market will be looking for signals about fiscal austerity and plans for further market intervention.

We have seen some life out of the euro this week so let’s take some time to evaluate the long-term prospects of the European single currency.

We all know that the euro-dollar has been in a long-term downtrend. Since trading at a high of 1.5138 in December the euro plunged to a four-year low of 1.1877 just this past week. That’s a more than 3200 pip decline over six months – truly an amazing decline.

Almost all the money made trading the euro over that time has been on the short side. Rebounds have been shallow and short-lived. Many analysts have been preoccupied by calling the bottom and once again that’s where we are today.

Let’s have a look at the chart. We can see the long-term downtrend but just in the past week we have rallied about 200 pips. Can the rebound continue? Or is this another bounce to sell?

Technically, we can see that the downtrend is well-intact but there has been solid pop. There is no significant support until 1.1637 so much of the market is focused on that target.

Looking at the Bollinger Bands, they show that the euro has traced along the bottom for some time now but there have been periodic rebounds to the upper band. We see some scope for a rebound to the mid-point, at roughly 1.23 or even the upper band, which should trend down toward 1.2450.

On the other hand, it would be no surprise to see the euro continue falling. Many of the corrections have been very shallow and today’s price action suggests we could be heading lower again.

The head and shoulders patter we warned about last week was finally completed in EUR/USD as the pair broke down in spectacular fashion today. The catalyst were comments from a spokesman for Hungary’s Prime Minister who said the nation is in a “grave situation” because the previous government “manipulated” data and “lied” about the state of the economy. Turkey isn’t a part of the euro but is on the periphery of the zone. Worries about Spain also ignited and credit default swaps around the region soared.

Technically, EUR/USD continues to be in bad shape. We have frequently advised selling this pair and always advise following the trend. As everyone knows by now, the trend in EUR/USD is lower. We watched over the past week as a host of economists, strategists and commentators advised buying euros. Obviously, they were wrong.

The only question is: how far will the euro fall? The market has squared its focus on the late-2005 low of 1.1639. As we previously mention, this corresponds with the measured target of the head and shoulders pattern.

We think that any entry point is a good one for the coming week but, as the RSI shows, we are oversold on the two hour chart.  It would be no surprise to see a rebound to 1.21 late on Friday or early next week. This would represent a great entry point provided you could withstand a potential short-squeeze to 1.23, which would be our stop. The whole trade represents a potential profit of 450 pips and a loss of 200.

The euro once again turned lower today on reports that Spanish banks are unable to borrow and a story in the Financial Times suggesting that Safe — the Chinese government investment fund at holds an estimated $620 billion in euroarea debt — is worried about its investments in Portugal, Italy, Ireland, Greece and Spain – the so-called PIIGS.

The euro tumbled on the news and has fallen below initial support at 1.2177. The cycle low of 1.2144 could be breached imminently and that would be a very bearish signal for EUR/USD.

The pattern that points to further losses is also a classic head and shoulders formation.

The neckline has already been breached and the negative outlook would be confirmed by a fall below 1.2144. The measured target of the head and shoulders is 1.1683, which dovetails nicely with the 2005 low of 1.1639.

Overall, the fundamental and technical reasons are in place to be short the euro. Sell any bounce.

The Australian dollar is nearing critical support and in danger of falling to an eight-month low. There are signs of oversold conditions as we near support at 0.8578 and a bounce is possible. A sustained break below that level would be very bearish.

We also have to address the euro, given the events of the past 24 hours. We were constructive on the euro’s fortunes heading into yesterday’s session. We saw the potential for a bounce to 1.27 or even 1.31 on extremely oversold conditions. The market was tracking higher for most of yesterday’s session as the market touched 1.2445 but the legs were kicked out from under the euro after Germany banned certain types of short sales. German financial regulators banned naked short sales of exchanged traded euro area debt, credit default swaps and on the shares of 10 financial institutions. In the medium term, this is very bearish and the market closed below our sell line at 1.2330. We will look for levels to enter short positions.

The Australian dollar was beaten up badly on Tuesday and continues to face pressure so far today. Notice how close we are to the 8-month low.

We have fallen very quickly in the past two weeks. After the panic low on May 6, we have rebounded only to trace out a fresh low. That price action is bearish, no doubt.

We have to point out that the RSI is flashing a very oversold signal. In this case, we will ignore that signal if we see a sustained move below the 0.8578. The measured target of the drop would be 0.7754, there is also support at 0.7702.

All eyes on the critical support level at 1.2330. That was the low in October 2008 after Lehman Brothers collapse and was the low from the credit crunch. In Asia-Pacific trading we fell as low as 1.2333. A sustained break below that level would be bearish for the euro and would likely ignite further stop loss selling. On the other hand, if sentiment begins to improve, a sizeable bounce is possible.

We think this presents a good opportunity to cover EUR/USD shorts. As the weekly RSI shows, the euro is due for a bounce. We are also at a critical support level that won’t be given up easily. The risks, to us, a skewed badly to the upside.

Another factor that we will watch is the U.S. stock market. It has rallied nearly every Monday since the start of 2010. Futures are pointing to losses, but it’s early and we don’t like to fight a trend.

If we see a further breakdown and close below 1.2330 in EUR/USD we will initiate new short positions but until we see that, we are looking for better levels to sell. Agressive traders might even attempt small longs, with tight stops.

We worried about the euro in our post yesterday and it appears our worries were well founded. The European session led to a huge short squeeze in the euro, pushing it briefly above our resistance level at 1.3016. The gains were short-lived, however, and the euro has plunged back below 1.28.

We can see the huge reversal on the daily chart. The implications going foward are bearish. The Eurozone rescue efforts won’t be seen as a failure unless we fall below the 1.2521 low from May 5 but at this rate it won’t take long.

Analysts around the world were quick to dismiss the rescue efforts. Some noted how the 750 billion euros will be enough to cover funding needs for Greece, Portugal, Spain and even a portion of Italy’s deficit over the next three years but others noted that the required deficit-cutting and growing public unrest in Germany and Greece are threats.

We won’t argue with the market’s reaction. The European sovereign debt crisis will be over when it’s over. Some stability above 1.2521 will be a good sign but until we see a close above 1.3016, we will remain in the bearish camp.

European leaders unveiled a nearly $1 trillion rescue effort designed to stop the  euro’s fall and stabilize sovereign debt spreads. The move led to a rally in EUR/USD and a big improvement in broad sentiment.

EUR/USD is now in the fibonacci retracement ‘box’ which falls between 50% and 61.8% of the May 3-6 sell-off. The values are 1.2918 to 1.3016. We feel that the euro will have to break above 1.3016 in order to trigger a full retracement to 1.33.

Interpreting fundamental news in a volatile market is difficult. Our initial inclination was that the package was very bullish for the euro. Our long trading history, however, has taught us to very important lessons: 1) don’t fight the trend 2) listen to the charts.

The 10 minute chart looks like this.

We have highlighted the ‘gap’ that opened on the weekend. Early in trading we saw a series of lower lows and the gap looked like it was going to be closed. When the news of the bailout was announced, however, the euro pushed higher. Unfortunately,  EUR/USD was unable to breach the 1.2947 high. This will now act as short-term resistance.

In light of the inability to break above 1.2947, with resistance looming at 1.3016 and a with long-term downtrend in place we have no choice but to be bearish of EUR/USD. The key support in the short-term rests at 1.2809.

This is a high-volatility market and nothing would surprise us. There is definitely money to be made.

The

The market seems to take every small bounce as yet another opportunity to sell the euro. Earlier today we traced out a low of 1.2804 before bouncing a full 100 pips. The euro then started to fade again and eventually fell to 1.2790. Support is thin below 1.28 with 1.25 as a target that many are touting.

One school of thought has shorts being scaled back leading up to the ECB rate decision in about 16 hours’ time. That would lead to a euro bounce. The other school believes the ECB has very little ammunition to fight the falling euro. ECB officials have tried to ‘talk up’ the strength of the Greek bailout for weeks now and the market is now at the point where there really nothing Trichet and Co. could say to stop the tide of euro selling. The focus has shifted to actions they could take and policy moves such as bond buying or interest rate cutting are far fetched. The biggest risk to the euro is that policy makers sound tired, repetitive and helpless. That would unleash another round of euro selling. In the lead-up to the decision, however, we don’t expect a further powerful push to the downside. The risk are likely skewed toward consolidation but in the short-term 1.2790-1.28 will be key.

The euro began to unravel yesterday when S&P’s actions hit the wires. First, Portugal’s credit rating was cut (to A-/A-2 with a negative outlook. Second, S&P cut Greece’s sovereign credit rating to junk status, a three notch downgrade, with a negative outlook to go along with an expectation of almost no economic growth through 2016.

We might see some initial consolidation after the violent breakdown in the euro but the technical path downward has been reassured. The euro is in deep trouble with no foreseeable way out. Any bounce is going to be sold heavily by macro traders. Following the pack is the only way to play euro trades.

We see the risk of a sharp, short-covering rally as minimal. Even a catalyst such as a huge bailout of Greece will only serve as a selling opportunity. The market is going beat up the euro until it bleeds. At some point, the market will start to stabilize by moving sideways but that is the best case scenario in the short term.

Greek 2-year notes are yielding 18%! There is remarkable strain here and the situation will eventually spread. For those who are not already in a euro short position, look for selling opportunities. But for those who already hold them, hang on or add.

What was most surprising in today’s market action was not the size of the fall in the euro, but that the euro managed to gain against several currencies.

A chain of events has led to the powerful selloff in EUR/USD and the pair has fallen to the lowest since May 2009.

The moves were kicked off as the European Commission revealed that Greece’s deficit, at 13.6% of GBP, is worse than originally reported and could be further revised down by 0.5 percentage points. The euro then bounced on reports that Greece could ask for a short-term loan while details of a bailout package are worked out, in a so-called “bridge loan.” Then, the selling resumed when Moody’s cut Greece’s sovereign ratings to A3 from A2 and placed it on review for further possible downgrade.

Now, with the G20 upcoming, there is speculation that the body could increase pressure for some sort of action. It seems as though the bond market is pushing the agenda with yields on 10-year Greek bonds surging to 8.70%, compared with 3.04% for comparable German bunds.

There is also talk of panic selling in euros as stop losses are blown out. The technical picture points to continued losses.

The next major support level isn’t until 1.2896 and that certainly is a major low as it represents the correction low in April last year. There is talk about some support at 1.3150 and there will be psychological support at 1.30.

Overall, however, the situation is negative and we don’t expect any major euro rally. Sell any bounce.

Greece got its lifeline on the weekend in the form of 45 billion euros from the European Union and International Monetary Fund. It’s a staggering amount of cash that will be lent at about 5% for three years. Greece does not yet want to take the cash and instead will try to tap the market in the hope that the EU/IMF backstop will bring down borrowing costs.

Overall, the value of the loans is much higher than the 10-20 billion euros the market was expecting and the interest rate is about as expected. In the short-term (this week) this should calm European nerves and boost the euro. The market is massively short euros and this is sure-fire catalyst to spark a short-term rally.

Technically, the picture is clear.

We have a long-term downtrend that has been broken after a clear double-bottom formation. The measured target of the double bottom is 1.3912, which is above resistance at 1.3816 but below the early-Feb high of 1.4025.

We don’t think the market will have a huge rebound because there are still lingering fiscal problems in Spain, Ireland and Portugal that must be solved. Moreover, downtrends rarely reverse. They usually first experience a period of sideways movement. Given that, we expect to see and range-trade develop between 1.35 and 1.40.

The U.S. dollar took flight in today’s session and the euro fell below key support. This is a trade we are not going to fight. The U.S. dollar now looks bullish by just about any metric we can muster.

In the long run, we can think of a lot of reasons not to be long USD but right now, there is no other trade. When the forex market sends a signal like it did today, and the technical align, you have to go with it.

The breakdown in the euro today looks very similar to the other recent consolidations and drops. It would be no surprise to see a fall to 1.32 and likely 1.28.

King dollar is back.