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by Charalambos Pissouros

JPY Rallies, AUD Tumbles on Currency ‘Flash Crash’

The yen rallied overnight, while the Aussie tumbled as very thin liquidity conditions resulted in a foreign exchange ‘flash crash’. The catalyst may have been reports by Apple Inc., which cut its revenue forecasts mainly due to the economic deceleration in China, adding to concerns over slowing global growth.

Apple Reports Add to Investors’ Anxiety, Trigger FX ‘Flash Crash’

The dollar traded higher against most of the other G10 currencies yesterday. It underperformed only against JPY, which soared overnight, while it traded virtually unchanged against CAD. The greenback gained the most against GBP, SEK, AUD and NZD.

USD performance G10 currencies

Following the disappointment in China’s Caixin manufacturing PMI, which was the reason for investors to start Wednesday’s Asian session, and the New Year, on a defensive note, markets continued to trade in a mild risk-off manner, with most major EU indices ending their sessions in the red, or virtually unchanged. US indices started their session on the back foot as well but rebounded later in the day to close positive.

However, this can only be characterized as the “calmness before the storm”. After the US close, Apple Inc. cut its revenue forecasts for its first fiscal quarter that ended on the 29th of December, reporting that fewer iPhone upgrades and a slowdown in sales were mainly owed to the weak performance of the Chinese economy. This triggered a selloff in equity futures, as it added to the already elevated concerns over slowing global growth.

The moves were even more exacerbated in the FX sphere, with the safe-haven yen soaring and the commodity-linked Aussie tumbling. The Kiwi slid as well but not as much as the Aussie. The gap between the US close and the Tokyo open is the thinnest period of the day in terms of liquidity, and today, Japan was on holiday which resulted in even thinner conditions. The flash crash may have been also the result of massive orders being triggered by algorithms, like the one we saw in the pound in October 2016.

As for our view, given that they are too stretched, the moves may partially correct themselves. However, as we noted yesterday, the fundamentals that have been weighing on investors morale recently remain in the limelight, with concerns over a global economic slowdown at the top of the list. The reactions to China’s Caixin manufacturing PMI and to Apple’s reports show how sensitive the financial community is to anything pointing to slowing growth, especially in China, the world’s second largest economy. Headlines surrounding the Fed’s future plans, as well as developments in the Brexit sequel have also the potential to spread anxiety.

At this point, we will repeat that, among currency pairs, one of our favorite proxies for gauging changes in the broader risk sentiment is AUD/JPY. During periods of uncertainty, the yen gets benefited due to safe-haven inflows, while the commodity-linked Aussie comes under selling interest, especially if worries are triggered by developments concerning China. Australia is among the countries that are heavily dependent on trade with China. On the other hand, anything that allows investors to calm, may also encourage AUD/JPY buyers to jump into the action.

AUD/JPY – Technical Outlook

A currency flash crash, where excessive yen-buying and Aussie-selling occurred, forced AUD/JPY to drop around 450 pips in one hour. The move broke the 75.95 barrier, which was initially seen as a good area that could show a bit of support for the already-beaten AUD/JPY. After the sharp move down, the pair managed to find support near the 71.50 hurdle, which is even lower than the lows of 2010. Last time, the 71.50 level was tested back in July 2009. Since reaching that level, AUD/JPY managed to retrace back up. However, the pair still remains weak and vulnerable, so any other negative remarks might trigger another leg of selling, hence why we will remain bearish, for now.

AUD/JPY is currently trying to retrace back up, but if it fails to get back above the 75.05 area, marked by the low of the 8th of July 2016, the bears could step in and drive the pair lower one more time. This is when we will look at 74.25 obstacle, a break of which could open the door to lower levels. Because there are no clear support levels identified from past activity, the closest area we can mark is the 72.45, which was the lowest point of the spike seen on the 24th of June 2016. Given the fact that this area was already easily broken during the Asian morning today, we will target it once again. If that zone gets reached, there might be a bit of correction to the upside, which if fails to gain momentum, could result in another leg of selling. We could then target the overnight low near the 71.50 hurdle.

Alternatively, if AUD/JPY makes a good comeback and breaks above the 75.95 barrier, this is when we will aim for slightly higher areas. A good potential resistance zone could be seen at 77.50, a break of which may lead to a test of the 78.10 obstacle, or even the 78.70 hurdle, marked by the high of the 26th of December. That said, further upside could be limited by a short-term tentative downside resistance line, drawn from the high of the 3rd of December.

AUD/JPY 4-hour chart technical analysis

AUD/USD – Technical Outlook

AUD/USD sold off as well during the Asian morning flash crash, reaching a new low at 0.6775. Last time this area was tested in March 2009. After reaching that low, the pair quickly retraced back up and now sits above an important support area, which is the low of the 26th of January 2016. The pair is trading below its short-term downside resistance line taken from the high of the 4th of December. Thus, even though AUD/USD could retrace a bit more, the downside pressure remains, and we might see another leg of selling.

As mentioned above, AUD/USD could make a move higher, but if it fails to overcome, either the 0.6980 barrier, or the short-term downside resistance line, we could see the bears stepping in again and driving the pair back down. Once again, a drop below the 0.6920 obstacle could push the rate all the way to the 0.6825 zone, marked near the lowest point of January 2016. Slightly below lies the recently-achieved low at 0.6775, which may get tested again.

In order to start examining higher levels, we have to see a break of the aforementioned downside resistance line, as such a move may force the bears to start abandoning the field. This could automatically place the rate above the 0.7015 area, which was the low of the 27th of December. This way we could then target the 0.7070 zone, a break of which may lead the pair towards the 0.7150 level, marked by the high of the 20th of December.

AUD/USD 4-hour chart technical analysis

As for Today’s Events

From the UK, we get the construction PMI for December, which is expected to have declined to 52.9 from 53.4. Yesterday, the manufacturing index unexpectedly rose to 54.2 from an upwardly revised 53.6, instead of declining to 52.6 as the forecast suggested. Perhaps, this tilts the risks of the construction index somewhat to the upside. However, as we already noted yesterday, bearing in mind that the UK political scene has overshadowed economic data recently, we expect the PMIs, even the all-important services one, to attract less attention than usual. Indeed, the pound rose only 25 pips at the time the manufacturing index was out, giving all the gains back and trading much lower in the following hours, to end the day as the worst performing G10 currency.

In the US, the ADP employment report for December is due to be released. Expectations are for the private sector to have gained 178k jobs, slightly less than the 179k in November. This could raise speculation that the NFP number, due out on Friday, may also come in near its forecast, which is 177k. That said, we repeat once again that, even though the ADP is the only major gauge we have for the non-farm payrolls, the correlation between the two time-series at the time of the release (no revisions are taken into account) has been very low in recent years. Taking into account data from January 2011, this correlation stands at 0.43.

US ADP vs NFP employment

The ISM manufacturing PMI for December and the initial jobless claims for the week ended on the 28th of December are also due to be released. The ISM index is forecast to have declined to 57.9 from 59.3, while initial jobless claims are expected to come in at 220k, slightly higher than the 216k of the previous week. This is likely to drive the 4-week moving average down to 214.75k from 218k.

With regards to the energy market, we have the API (American Petroleum Institute) weekly report on crude oil inventories, but as it is always the case, no forecast is available.

As for tonight, during the Asian morning Friday, China's Caixin services PMI for December is scheduled to be released and is expected to have declined slightly, to 53.1 from 53.8. However, bearing in mind that the Caixin manufacturing index slipped to contractionary territory, a larger-than-expected slide in the services print may add to concerns over a slowing Chinese economy and perhaps serve another round of risk aversion.

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