"Risk Off"!
Fundamentals
The "risk off" mentality is alive and well, as traders and investors flee "risky" investments due to the continued uncertainty surrounding the European debt crisis and its potential effects on the still fragile global economic recovery. Among the hardest hit commodity sectors have been industrial metals and energy, with both Platinum and Palladium futures falling to their lowest levels in over 3 months, and lead month July Crude Oil hovering near the $70.00 level. Both of these hard hit sectors rallied sharply earlier this year, as traders expected increased demand for commodities, since it appeared that the worst of the recession of late 2008-09 was over and a bout of economic growth would spur an increased appetite for physical commodities. This belief led to rising speculative net-long positions being built in both the oil and metals sectors and has set the stage for the rather rapid decline we are now seeing, as these large long positions are being liquidated, with fewer willing buyers to absorb this selling. Ironically, the Euro Currency failed to make new lows yesterday, despite the rapid sell-off seen in other currencies like the Australian and Canadian Dollars. This "support" for the Euro is most likely not due to traders' belief that a solution to the debt crisis will occur shortly, but rather probably due to short-covering buying by speculative shorts in the currency, as the market has heard rumors there may be potential Central Bank intervention in the FX markets to support the beleaguered currency. Short-covering buying can also be seen in the rise of the Japanese Yen, which was a favorite "borrowing currency" by traders of so-called "carry trades". If they have not done so already, traders should become familiar with the Commitment of Traders report released each Friday afternoon by the Commodity Futures trading Commission (CFTC). This report shows the net-long and short positions for large and small speculative traders, as well as activities of commercial traders in the futures markets. Avid readers of this report would have seen the large net-long positions being built-up by speculators in Crude Oil, as well as both Platinum and Palladium, in addition to the huge net-short positions in the Euro and Yen. This information can serve as a warning to traders that should world events trigger a "flight to liquidity," markets that are heavily one-sided by speculative interests may be prone to increased, volatile trading activity as positions are liquidated.
Trading Ideas
Given the potential for rising volatility in the futures markets near-term, some traders may wish to look longer-term and search out potential trades to take advantage of "price distortions" caused by speculative liquidation. An example of this type of trade would be to explore the purchase of bear put spreads in the Japanese Yen. September Yen futures are up nearly 200 pips as of this writing, trading at 1.1132. The September Yen 109/104 put spread could be purchased for about 1.87 points, or $2,337.50 per spread, not including commissions. The premium received would be the maximum potential risk on the trade, with a potential profit of $6,250.00 minus the premium paid, which would be realized if the September Yen is trading below 1.0400 at option expiration in September.
Technicals
Looking at the daily continuation chart for Japanese Yen futures, we notice that since the August 2009 lows near the 0.9000 area, the front month Yen futures rallied nearly 2800 pips to their highest levels back in November of last year. Although prices have once again moved above the 200-day moving average, we notice that the up-trend line drawn from the August 2009 lows through the major lows before the highs were made in November has been broken to the downside. Only the upward "spikes" made during the past few sessions were able to penetrate this key trendline, and only for a very short time period. There is also a possibility of an intermediate "head and shoulders" technical formation being created, which if true, could signal the Yen's bull run may be near an end. The 14-day RSI is supportive, however, with a current reading of 63.06. The "Flash Crash" spike highs of 1.1375 look to be the next resistance point for June Yen futures, with major support not seen until the recent lows of 1.0532.
Mike Zarembski, Senior Commodity Analyst
