StreetCoup

The S&P 500 is heading higher within a narrow uptrend channel and almost reaching the 2011 highs. We can observe how buyers could create a new visible base at approximately 133.50 which should not be penetrated for the current uptrend to remain intact. Intermediate term traders might want to adjust their stop accordingly. The crucial low is still seen at 130. As long as this trough has not been breached, there is insufficient evidence for a larger pullback. Meanwhile it is sensible to stay bullish. Trend followers know that resistance areas are likely to break if a market is in a bullish theme according to the Dow Theory.

If we look beyond the S&P 500, there are plenty of asset classes that trend followers can consider opening positions in. They, too, offer beautiful trends to participate in. A popular alternative to equities nowadays are currencies (or the foreign exchange market).

I want to take the opportunity to look at how a small selection of asset classes have performed so far this year. Judging from this comparison chart, it is evident that the smartest portfolio is now long equities, gold, and short Yen against the Euro. If I have missed a relevant market, do drop me a line and I will gladly consider adding it.

The Japanese Yen has been arguably considered the safe haven for offering a steady appreciation despite the preceding years of crises. Such strength is commonly ascribed to the U.S. dollar, but the Dollar failed to offer the lasting performance you would expect during times of uncertainty.

Standard Chartered’s Global Head of FX Research, Callum Henderson, is still convinced that the Dollar and Yen are the only safe haven currencies at this moment. A frequently repeated argument in favor of the Yen is that their government was able to sell bonds to their own people instead of collecting money from investors abroad, thanks to the disciplined saving rates of the Japanese. A giant myth from the 90′s; their saving rate is already at 3.2% as of 2011. Considering this, Japan is not in such a strong position it is assumed to be. Other factors must have supported the Yen’s strength (I’m open to hear your arguments).

If you think more critically, you will realize that both currencies cannot be safe at the very same time. First of all, the Dollar is in a constant decline, interrupted by a few strong rallies in between, whereas the Yen had been in a stable uptrend so far. Trading the Dollar requires very accurate market timing while holding it for the long term has been a losing proposition. The Yen, on the other hand, is now breaking crucial support along with the 200 EMA. Not highly encouraging signs to stay long in this market. The result is that both currencies appear unattractive and the primary question is which one is going to depreciate faster.

At this moment it seems likely that the Yen will lose value faster than the Dollar, hence justifying a long position in the USD/JPY currency pair. It does not necessarily mean that the Dollar itself will appreciate, but it will gain relative strength as the Yen declines. Seeing paper currencies in relative, not absolute, strength is the striking characteristic of currency pairs.

We are just seeing the first signs of a crack and time will tell whether it will turn out to be a long-term play. As always, we will be protecting our capital with a properly set stop-loss order. In the case of USD/JPY, a sell stop near 77.30 makes perfect sense for the long position.

Bulls are making serious progress and there is no ending in sight. Instead of looking for targets, a trend follower should be more focused on where to adjust his protective stop at. This priority can only be addressed if we know where the current trend pattern would be invalidated, once crossed. Such an area is seen at the 130.00 support level, a crucial low created several days ago.

Everything in between is an allowance we need to give the market. Even if it were to range for the coming weeks, a breather is a welcome opportunity to be on the lookout for new long positions.

The most recent uptrend began on December 21 and showed the first sign of weakness during the past few days after the SPY closed its unfilled gap since July 28, 2011. As previously announced, one level at the 129.50 area did act as support.

Bullish market participants finally proved their case on Friday by breaking out for higher highs and not allowing any further progress from the bear’s side. This is very encouraging price action for traders like myself who hold long positions and are unwilling to budge. Unless proven otherwise (such as with a stopout), a classic trend follower will sit out the smooth ride.

To find out how to correctly manage and trail your stop-loss order, you may find my recent post a welcome read. In it, I illustrate how a trend follower can gradually lock in increasingly more profits without jumping off the wagon prematurely. Although the market appears to be accelerating higher, the stop-loss should be trailed before one is too traumatized at the next bigger sell-off.