Second, I have cracked through the mark of 1,000 Twitter followers. Spam or not, it’s still 1,000 :). I would also like to say that it has been awesome to interact with all the traders in Twitter and StockTwits. I’ve learned a lot from talking with everyone and hope to learn even more.

Click on image for full-sized graph

The pair also broke through the initial stop-loss of .9080 mentioned in the analysis. However, you can check StockTwits.com and see my twit on pushing the stop-loss 10 pips higher. It was still lucky that the stop was not triggered because the pair peaked at .9085. I usually never move stop-losses because that’s how you lose money trading; however, the market divergences (see post: Intraday Market Divergences) happening at the time the pair was reaching its high directed me to change the stop-loss.

In the end, it worked out well. I did not make the full 69 pips because I got out of the position and then back in. For some weird reason, Asian session movements (which I never take seriously) got to me to play on the safe side by closing the position before getting back in.

Now, it’s time to wait. The U.S. jobs data will be released Friday morning and is likely create lot of volatility and opportunity. Exciting.

In a general sense, rallying equities and a surging Japanese Yen creates a concern because the first indicates risk-appetite while the latter indicates risk-aversion. In these situations, one of the markets is usually “lying”. If you looked at the equities indicators (Tick, Volume, Breadth,etc.) you would have noticed that the S&P 500 was the guilty one.

Given that the riskier currencies such as the Euro, Australian dollar, or Pound Sterling tend to have a high correlation with the S&P 500 during market hours, all these divergences would have signaled a sell order in these pairs (dollar crosses preferably). I sold the EUR/USD at 1.3725 after noticing these divergences. Why not at 1.3750? Well, markets can still stretch out on divergences. As a result, I waited for the reversal candle to establish a potential retracement.

All in all, it is key to watch out for market divergences, especially when markets are moving strongly in one direction on lackluster data (in this case, sub-par jobs data & bad Pending Home Sales).

Here is the graphical illustration:

Click on image for full-sized chart.

Be on the lookout!

My goal is to bring more of the graphs I’ve been posting on StockTwitsFX to the blog and expand my technical and fundamental analysis here. I’ll still post lecture notes, longer-term fundamental analysis, and other general economics-related posts, but short-term technical analysis will likely be the core.

Earlier today, I opened a short position on the AUD/USD pair after the Australian GDP Data. The numbers showed that the Australian economy grew 0.9% quarter-over quarter and 2.7% year-over-year. In general, the numbers were in line with expectations. Yesterday, the Australian central bank also increased its cash target rate from 3.75% to 4.0%, which was also in line with expectations.

Even after all the good news, the Aussie-dollar was not able to break through a key resistance point at .9070. It tried to break the .9060 level 3 times within 24 hours and failed. Given that an interest rate hike and solid GDP numbers did not propel the pair upwards and break resistance, I opened a short position at .9049.

The only tail risk left that I see which could break the resistance would be a resolution package for Greece that would lift risky assets and currencies across the board. I’ll take my chances on that one. The U.S. ADP jobs number is also a risk, but the dollar’s reaction to the news is a coin toss (risk-trade vs. U.S. outperformance tug of war) . I was also planning on closing the position before the jobs number at 8:30 AM Eastern  time.

So those are the fundamental reasons behind the position. As for the technical analysis, what primarily got me into the position were the pattern formations on the AUD/USD 15 minute chart (which I uploaded to StockTwits earlier in the day) and hourly chart. Here is the 15 minute chart:

Click on image to see full-sized chart.

As the chart shows, the AUD/USD formed an evening doji (with a big wick) after a strong uptrend. The doji was then followed with a bearish red confirmation candle. Additionally, there was a pronounced MACD bearish divergence that indicated upward momentum was fading.

On a longer time frame, the hourly chart also displayed a bearish MACD divergence with a triple top formation.

Overall, the AUD/USD position had an entry at .9049, with a 36 pip stop loss at .9080. This stop-loss would hopefully allow any further challenges to the .9060 level and even .9070 (a conservative attack) without stopping me out of the position if the direction was still down. My initial target on the position is at .8980, which is a big congestion and support zone . This leaves the position with a risk-reward ratio of (69/36)=1.92, which is very appealing.

Now, it’s time to wait and see. I would like to close the position before the U.S. ADP jobs numbers. Currency trading is just too volatile to keep profits open for too long.

Paul Krugman MIT Lecture Notes/Bullet Points

These are the things we thought we knew about the Great Depression:

- The Great Depression happened because we had an unprotected banking system and a monetary authority (Federal Reserve) that did not know the right thing to do.
- The Federal Reserve failed to provide liquidity and stop the sharp contraction in money supply.
- Government did not know what to do. It did not follow big enough Keynesian policies (i.e. fiscal expansion).
- In 1937, FDR and the Federal Reserve were convinced that the recession was over and decided to mop up excess liquidity and tighten fiscal policies, creating the “2nd Depression”.
- As a result of The Great Depression, we established banking insurance (FDIC) to rule out bank runs and created banking regulation to go along with the insurance policies.

What do we understand about the current crisis?

* It seems like we have a “tech-ed” up version of the events that happened in the 1930s.
* We’ve not had your typical ‘bank runs’, but we’ve had an economic equivalence (i.e. investors taking money out in bulk from short-term funds that were not in a position to do so in a very short notice).
* There was a “monstrous” housing bubble similar to the 1920s stock market bubble.
=> It’s interesting that we’ve had such a large bubble right after the technology bubble.
* The housing bust would have created recession no matter what.
* Keynes’ The Great Slump of 1930 could be applied to the current crisis by changing a few words around.

How is it possible that events similar to The Great Depression have been happening again?

* We’ve had a combination of mis-learning, forgetting some important lessons of the 1930s, and failing to generalize some key factors.
* There was a conviction that the Federal Reserve could always do what is necessary to avoid an economic slump.
* Milton Friedman believed that the Federal Reserve could have stopped the money supply contraction in the 1930s. However, we can see that the Federal Reserve’s ability to expand money supply is limited when banks keep hoarding excess reserves.
*People forgot how hard it is to move economic policy forward.
* Bank deregulation (due to the forgotten fact that banks can still go bad).
* Until the crisis, no one was concerned about the “shadow banking” system. However, we found out that it was also susceptible to ‘bank runs’.
* Nevertheless, the actual economic slump due to the current crisis has been better than the one during The Great Depression. The first year of the crisis was the same (e.g. slowdown in industrial production and world trade), but the after-effects in the system have been better handled.

Why has the post 2008 slump been less severe than the post 1930 slump?

* Financial institutions were saved
* We have bigger governments now than in the 1930s.
* Government has acted as a major economic stabilizer (e.g. social security payments, healthcare transfer payments, etc).
* Additionally, deliberate government actions such as the “stimulus” have helped prop up demand.
* Problem is not over. End of recession does not mean the economic slump is over.
* Most economists believe high unemployment will be present for a prolonged period of time.

What should we not do right now?

* We can’t pull out the economic support before a full recovery takes place (a lesson learned in 1937).
* However, it appears that we’re going to do just that.
=> The stimulus will reach its peak effect this summer. The Federal Reserve will also stop its mortgage securities buying program in the next few months.
=> There are also calls to cut the budget deficit.
=> All of this is happening while indications are that unemployment will stay high for a prolonged period of time.
* As a result, will there be a double dip recession? Who knows.
* Political policy is acting as the problem has been solved.
* We’re forgetting that the problem is not solved by preventing the initial economic free-fall. You need to support the economy for an extended period of time.

Why are we replaying the past?

* Part of the answer is politics.
* Politicians only want to do half of what economists are suggesting.
* Economists are also confused.

What happens now?

* I’m worried about where we are now.
* Consumers are heavy loaded with debt and firms have a lot of overcapacity.
* Worries about deficits may lead to cuts in fiscal spending which could create more problems.
* Our current actions are similar to the actions done in the mid 1930s.
* I don’t see anything that will change the current economic climate.
* In the long run, we’ll find a road to recovery. However, like Keynes said, in the long run, we’re all dead.

Q & A

What are the strengths and weaknesses of a fractional reserve system? Are there any alternatives?

* We can’t say what banks are allowed to do; however, we can decide what to insure (e.g. deposit insurance).
* Some people want banks to be just a big safe. However, the money will flow to somewhere else where the money will be put to work and earn a return.
* What we need to do is regulate things such as leverage, capital requirements, and reserve requirements.

What’s your opinion on the Euro?

* Greece has always been a problem. They’ve always mismanaged their finances.
* Spain is the real factor. They were responsible and even had a budget surplus a few years ago.
=> However, they’ve not had an adjusting mechanism do deal with their real estate bust.
* What’s happening to Spain is what people thought was not going to happen (A big Euro economy having problems because it has no adjustment mechanism).
* I don’t know what will happen to the Euro.
* Nevertheless, dropping out of the Euro is not really feasible. It’s also hard to see a breakup of the union.

Should we break up too big to fail companies?

* I don’t think big financial institutions are at the heart of the financial crisis.
* Bank runs can still happen even if we had many small banks. Think 1930.
* Canada has only 5 banks that dominate the system yet their doing just fine.
* My argument against these large institutions is that they have too much political influence and pretty much end up writing legislation.
* Overall, they’re not irrelevant, but it’s not the core macro problem.