What's The Outlook For Risk Sentiment Today?

Authored by Ivan Delgado, Head of Market Research at Global Prime. The purpose of these institutional-level chart studies is to provide an assessment of the market conditions for the next 24h of trading in order to assist one’s decisions on a regular basis.

Authored by Ivan Delgado, Head of Market Research at Global Prime. The purpose of these institutional-level chart studies is to provide an assessment of the market conditions for the next 24h of trading in order to assist one’s decisions on a regular basis.

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Fundamentals: Break down of market drivers + key releases

  • Indisputably, one primary market driver includes the growing optimism that orbits around some sort of China/US trade deal as we head into the G20 summit in Argentina early December. I personally still believe that this improved tone in risk is largely manipulated by US President Trump talking up hopes of a positive outcome with the intent to see a recovery in local equity valuations after the recent volatile moves seen.
  • Another major market driver includes the Brexit conundrum. UK PM May remains in shaky grounds, and while a draft agreement on Brexit has been hashed out, there remain many uncertainties ahead, including a potential leadership threat. A minefield of risk headlines around Brexit should continue to translate in high volatility when trading the Sterling.
  • The chances of a Brexit deal approved through the parliament are very thin, which leaves UK PM May with 3 choices. A hard Brexit no deal, a new referendum or general elections.
  • The Fed is turning a bit more cautious on global growth based on last week's outlook report. This surprisingly new narrative, even if far from threatening the immediate path of hiking rates, is a reminder that heading into 2019, rate hikes will come at a higher price as liquidity keeps draining out of the system amid slower growth around the globe, especially if US and China continue at odds when it comes to finding a potential trade agreement. Not to mention the risk of the fiscal stimulus fading and the twin deficits the US will be faced with (balance and fiscal budget).
  • The calendar is vacant for the next 24h of business. Find below a snapshot of the economic data highlights from the last 24h.

Risk model: Recovery in risk hinges on equity performance

As we can clearly observe in the yellow box below, the dynamics in risk conditions have seen a marked improvement in the last 24h as reflected by the black area (risk-weighted index), which comprises the SP500 + US 30-year yield - DXY. This improvement in risk has been driven by a recovery in US equities coupled with a lower USD and US yields. This puts us in a USD weakness environment short term (both from an order flow as well as from a structural view). This means that the cues to gauge the next wave in risk sentiment will continue to be determined by the performance in equities, while the USD underperformance remains.

Let's now start to dissect the risk-weighted index part by part. As I've been warning for a few days now, if we are counting on the equities to keep doing the heavy lifting to sustain risk, we are far from being out of the woods yet based on the S&P 500 hourly structure. The Head & Shoulder pattern is still very much a possible play, as price approaches a critical resistance at 2,765.00, which would be the right shoulder. The context for the pattern to play out I'd say is decent. Let's not forget that the latest up leg in early November ended in an exhaustion off 2,816.00 daily resistance, from where an impulsive move down with solid velocity and rich in magnitude took place. That makes the sell on rallies strategy a viable one based on the order flow seen and the agreement of structure. Note, if we find acceptance above 2,765.00/70.00 in the S&P 500, this scenario would then be invalidated and we might be setting up for a re-test of the previous high of 2,816.00.

There is some hope that we see a recovery in US yields if only based on the anticipation of where we yield trade at (key daily support). However, we've seen the breakout of the previous range with acceptance below on the hourly, which has validated a fresh down-cycle as order flow keeps building fresh US bond positions (yield sold). For the overall risk recovery to be further underpinned by the performance of US yields, the 30-year should at least see a resolution above the descending trendline around 3.35%.

With regards to the USD, here we need to be mindful of two forces. On one hand, the hourly chart has seen control re-taken by sellers, creating a new cycle low, although I am expecting lower levels to attract significant buy-side interest potentially around 96.10, which is the 100% projection target. This scenario would be negated if we break the descending trendline shown n the chart below. What this means is that very short term, there might be further downside in the hourly move seen before the current cycle matures. If that's the case, the projected move lower on Monday should continue to support risk bids.

Bottom line:

The road ahead for risk to find new legs up will be a technical challenge based on the structure of the S&P 500 (case negated above 2,765.00/70.00). If instead, we count on a USD-centric move to keep risk afloat, be mindful that we might not be at the optimal juncture just yet if basing this premise on the latest sell-off in the DXY, not until we see 96.10 projection target tested. Looking at the US yields, a lift from current levels is definitely an option to consider given the daily support found. However, for risk to remain sustained even on a lower S&P 500, US yields will need to still battle through above a descending trendline and intraday resistance while assisted from more downside in DXY.

Important Footnotes:

  • Risk sentiment model: The fact that financial markets have become so intertwined and dynamic makes it essential to stay constantly in tune with market conditions and adapt to new environments. This prop model will assist you to gauge the context that you are trading so that you can significantly reduce the downside risks. To understand the principles applied in the assessment of this model, refer to the following tutorial Howto Unpack Risk Sentiment Profiles
  • Cycles: Markets evolve in cycles followed by a period of distribution and/or accumulation. The weekly cycles are highlighted in red, blue refers to the daily, while the black lines represent the hourly cycles. To understand the principles applied in the assessment of cycles, refer to the following tutorial How To Read Market Structures In Forex
  • POC: It refers to the point of control. It is depicted by a red line on the bottom right side chart for each candle. It represents the areas of most interest by trading volume and should act as walls of bids/offers that may result in price reversals. The volume profile analysis tracks trading activity over a specified time period at specified price levels. The study reveals the constant evolution of the market auction process. If you wish to find out more about the importance of the POC, refer to the following tutorial Howto Read Volume Profile Structures
  • Tick Volume: Price updates activity provides great insights into the actual buy or sell-side commitment to be engaged into a specific directional movement. Studies validate that price updates (tick volume) are highly correlated to actual traded volume, with the correlation being very high, when looking at hourly data. If you wish to find out more about the importance tick volume, refer to the tutorial onWhy Is Tick Volume Important To Monitor?
  • Horizontal Support/Resistance: Unlike levels of dynamic support or resistance such as Fibonacci retracements, pivot points, trendlines, or other forms of reactive areas, the horizontal lines of support and resistance are universal concepts used by the majority of market participants. It, therefore, makes the areas the most widely followed and relevant to monitor.
  • Trendlines: Besides the horizontal lines, trendlines are helpful as a visual representation of the trend. The trendlines are drawn respecting a series of rules that determine the validation of a new cycle being created. Therefore, these trendline drawn in the chart hinge to a certain interpretation of market structures.
  • Correlations: Each forex pair has a series of highly correlated assets that can add an edge to your trading. This type of study is called inter-market analysis and it involves scoping out anomalies in the ever-evolving global interconnectivity between equities, bonds, currencies, and commodities. If you would like to understand more about this concept, refer to the tutorialHow Divergence In Correlated Assets Can Help You Add An Edge.
  • Fundamentals: It's important to highlight that this outlook is subject to the impact of the fundamental news. Any unexpected news may cause the price to behave erratically in the short term.
  • Projection Targets: The usefulness of the100% Fibonacci projection resides in the symmetry and harmonic relationships of market cycles. By drawing a 100% Fibonacci projection, you can anticipate the area in the chart where some type of pause and potential reversals in price is likely to occur, due to 1. The side in control of the cycle takes profits 2. Counter-trend positions are added by contrarian players 3. These are price points where limit orders are set by market-makers. You can find out more by reading the tutorial onThe Magical 100% Fibonacci Projection

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