Key News

• A Chinese report saying Beijing should increase its holdings of euros and yen in its foreign reserves knocked the already battered dollar. (Reuters)
• Spanish producer prices fell 5.4 percent year-on-year in September. (Reuters)
• German Chancellor Angela Merkel's new center-right government will take office Wednesday with a policy program that foresees heavy deficit spending to support the fragile recovery in Europe's biggest economy. (WSJ)

Quotable

“What is still lacking from our market understanding are the particulars of how and why we keep on acting out the same old emotional scripts.”

                              Woody Dorsey

FX Trading - Dow Theory suggests caution…could be dollar bullish
I am a little hazy this morning after a long flight back to south Florida last night from a trip to Vancouver this weekend. But it was worth it.

I spoke at an investment conference sponsored by Michael Campbell’s Money Talks radio. The Money Talks team is a great bunch of people. Michael Campbell heads it up, and does a radio program every Saturday morning. I urge you to listen in, as Mike’s insights into trading, investing, and global macro economic analysis are about as good as it gets; and he always has interesting guests that don’t pull punches, and don’t talk down to listeners—and that is reflected by the quality of the people who attend Michael’s events. They aren’t your average bulls or bears. The word bear leads me to this morning’s topic…stock market bulls and dollar bears might want to tread with some caution as a very smart guy who has seen many markets for many decades is turning bearish…

"I take the action of the stock and bond markets this week (and particularly today) very seriously [Friday 23 October]. Extreme caution is advised. The primary trend of the market is bearish, and the secondary trend may now be turning down,” writes Richard Russell of Dow Theory Letters. [You can view the full story here.]

Source: MoneyTalks.net

Source: MoneyTalks.net

Why does this matter for currency investors? It matters because the correlation between the US$ index and the stock market has been very tight and negative i.e. rising stocks and a falling dollar. And it dovetails onto the presentation I gave this weekend on Intermarket analysis—that segment that I believe fuses together both technical and fundamental analysis; its place defined in our analytical framework below:

A couple of Intermarket relationships:

S&P 500 Index not being confirmed by 10-yr US T-note Futures:

Bond prices continue to work higher along with the S&P. A pattern we’ve seen since Jun-Jul. Here is what we think it’s telling us: Despite all the money being dumped into the market, and talk of inflation fears, bond prices seem to be reflecting concern about growth going forward (looking past the inflation scenarios) and maybe a replay of risk aversion to come. Financial markets seem quite far ahead of the real economy. I think even if one believes real recovery is underway, they will admit that, reluctantly.

US unemployed (black line) vs. S&P 500 index (purple line): This price series has been somewhat correlated on a long-term basis as you can see in the chart below. It’s now looking increasingly like there is a big bet on an improving job market.

S&P 500 (black line) vs. Euro (red line) vs. US$ Index (green line): A very tight correlation.

US stocks are bidding slightly higher pre-open this morning. But increasingly some smart people are urging caution, suggesting at least that it’s time for a breather—some are a lot more bearish than that. Though the euro is bidding higher too, with stocks, the news from China seems to have had a muted impact on the euro. Is this good new bad price action for the euro this morning?

On the usual bearish dollar day, news (true or not) that China is thinking of shifting some of its massive FX reserve allocation away from dollars and into euro and yen would likely have tanked the buck.

It seems the correlations are clear. Problem is when we watch the relationship between the stock market and the dollar; we realize our stock market forecasting crystal ball is likely as cloudy as our dollar variety.

Either way, it seems we are all stock traders now.