Hawkish style rate cuts seem to be in style nowadays! First was the European Central Bank (ECB) rate cute and quantitative easing that was not really close to what the ECB members had been signaling about, which immediately disappointed the market participants and led to massive upmoves for Mr. Euro (Euro, EUR). Then it was the Reserve Bank of New Zealand (RBNZ) rate cut which was oddly accompanied by positive economic reviews from the bank’s governor, making Mr. Kiwi (New Zealand Dollar, NZD) jump as well. Are these just immediate and short-term aftermath of the economic events? Why isn’t Ms. USA (US dollar, USD) joyous on positive US economic data? What can we expect to happen on a potential US interest rate hike? Let’s take a deeper look at the situation well into 2016.
What do we normally expect to happen after an interest rate change?
If you have been watching the Invest Diva videos carefully, you’d know that under normal economic circumstances, when the interest rates go down, they take their country’s currencies down with them. On the other hand when interest rates go down, inflation goes up.
On the other hand, a country’s currency get stronger when interest rates are higher. Why? Because investors seek more of that currency in order to profit more. The moment a particular country’s central bank increases interest rates, investors take this opportunity to shift their money into that country.
That is why Ms. USA (US dollar, USD) was getting pretty strong in November against most of her partners on the forex dance floor: Investors were buying USD on the rumors that the Federal Reserve of the US will raise interest rates in December.
So when it comes to the EUR/USD and NZD/USD pairs, we were expecting that Mr. Euro (EUR) and Mr. Kiwi (New Zealand Dollar, NZD) to get weaker on rate cut news, while Mr. USA gets stronger on a rate hike news.
Ideally, this would have created a perfect trading scenario because you always want to pair a strong currency versus a weak currency to get the best boost out of a strong trend.
What happened this time?
Don’t under estimate the power of rumors! Over time, central bank heads have mastered the art of exaggeration.
- EUR: European Central Bank president had been jabbering about doing “whatever it takes” to boost growth and inflation as quickly as possible. But when it came down to it, most market participants weren’t exactly blown away by the scale of the quantitative program ECB put on the table last week. Many had actually been counting on an increase in monthly purchases. So on the news, many traders jumped into profit-taking from previous short EUR positions
- NZD: As I covered in my previous Kiwi update, New Zealand hasn’t been doing as great as one would hope. And we were expecting a rate cut from RBNZ in December. And guess what, they did cut the rates 25 basis points to 2.5 percent. However Governor Wheeler was quick to say that New Zealand’s inflation is expected to move inside the target range from early 2016. Aha! Our super positive forex traders chose to see the glass half full and started buying Mr. Kiwi instead of dumping him.
- USD: we have been getting spectacular economic data from the US, with the Non-Farm Payrolls (NFP) coming out much better than expected on Friday and the unemployment rate unchanged at 5.0%. These backed up Fed’s positive outlook on the economy.But Ms. USA who had been rising on the rumors that the Fed is going to raise interest rates up until last week, seemed to be exhausted of moving on gossip and has given the leading role to her counterparts. That’s why we didn’t see a massive bullish movement last week.
What could happen next?
- EUR: So Mr. euro lives to fight another day, but did the fundamental story change? Probably not. At the end of the day, there’s no denying that the ECB is sticking with its very dovish stance and probably just didn’t want to use up all the monetary policy ammunition it has, saving some shots in their sleeves in case its battle with deflation goes on for much longer.
- NZD: There is no denying that the New Zealand economy has been on the negative side in 2015, due mainly to lower terms of trade. Combined with increases in the labor supply from strong net immigration, the slowdown has seen an increase in unemployment rate. However, a recovery in export prices, the recent lift in confidence, and increasing domestic demand from the rising population are expected to see growth strengthen in 2016.
- USD: If the Fed decides not to raise interest rates on December 16th, or if they raise it just a little bit, there is a good chance that dollar bulls will also get disappointed and start dumping Ms. USA. On the other hand, a moderate amount of rate hike could get the dollar bulls back on track.
Technically Speaking
EUR/USD
The pair rose and entered our pivot zone between 1.08 and 1.11 after ECB day. Now it is struggling to break above the Ichimoku cloud, and 1.11 stands as a strong barrier. Depending on the Fed rate decision, the range could continue. But combining the fundamentals and the long-term potential for the pair to complete a Saucer Top pattern on the monthly chart, our outlook remains bearish targeting 1.0550. A break below that could open doors for further declines towards parity.
Here are the recommended supports and resistance levels* for long term forex trading strategies:
| Support Levels | Turning Point | Resistance Levels |
|---|---|---|
| 1.05 | 1.08 | 1.13 |
| 1.00 | 1.11 | 1.18 |
NZD/USD
This pair has been ranging after massive drops between March – September 2015. It is currently resisted by the 38% Fibonacci retracement level in the 0.68 area, and could be on its way to form a double top pattern. Again depending on the Fed rate decision outcome, we could see the pair struggling with this resistance level and move back down towards our bearish targets of 0.6350 and 0.6150 in extension. But unlike EUR/USD, this pair also has to break below the Ichimoku cloud. So our patience must be stronger.
Here are the recommended supports and resistance levels* for long term forex trading strategies:
| Support Levels | Turning Point | Resistance Levels |
|---|---|---|
| 0.6350 | 0.66 | 0.68 |
| 0.6150 | 0.68 | 0.70 |
In any case, set your stop loss and profit targets a little loose from the above levels, because the naughty currency pairs sometimes change their mind right before a psychological level just to piss the forex trading crowd off. This technique helps you avoid getting kicked out of your trading position prematurely.
*Important Note: The support and resistance levels are not suitable for all traders and largely depend on your account size, margin and leverage. Book a private lesson to learn how to personalize your account based on our trading guide.
#1 Best Selling Author. Helping you accelerate your retirement with Triple Compounding™ Former engineer on a mission to help 1 million households take control of their finances. Founder & CEO of Invest Diva.
