More Ed Ponsi on CNBC

As Obama prepares to pick his top economic team, Sean Callow, senior currency strategist, Westpac Bank discusses what this means for the currency markets, with Ed Ponsi, president at FX Educator.com and CNBC's Martin Soong & Sri Jegarajah.

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Citigroup's shares are worth 5-6 times more than where they are right now, says Bill Smith, president, SAM Advisors. He tells CNBC's Martin Soong why he is still holding the stock while Ed Ponsi, president at FX Educator.com explains why he would choose to do the opposite.

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The Great Fibonacci Debate

The Great Fibonacci Debate

By Ed Ponsi

Greetings from Acapulco! Even in mid-November, the weather here is warm and sunny - perfect for the beach. I have a great question from a reader this week about Fibonacci. Fib strategies have become very popular, but today there are so many permutations and variations on this basic theme that sometimes the useful aspects of this technique get lost in the shuffle. This question opened the door for what we might call the "Great Fibonacci Debate". Read on!

Q) Hi Ed, I have a few quick questions about Fibonacci arcs. Do you think they have any value, and do you use them? To me it seems like a working idea (Fibonacci numbers) is being taken a step too far (like calculating an RSI on an RSI). I've always thought, the more lines you draw on a chart, the more chance you have of the price being around one of the lines.

With the arcs sometimes the price "stalls" above or below them, but I can overlay a drawing my 3 year old son made and find the price stalling around his lines too :) And of course, the examples found in books and on the web are chosen as examples because they prove the author's point.
In your books you stated that you were a bit skeptical about Fibonacci numbers until seeing that they work. I was the same until reading your book and seeing them work while watching prices move. Also, as you said, because their use is so widespread, it becomes a self-fulfilling prophecy. The use of Fibonacci arcs doesn't seem so widespread, and I'm not sure whether they work because of some "mystical" order in the universe or not...Thank you in advance for your answer.

Ed Ponsi) Thank you for your question, you are right on the money. I agree that Fibonacci is a self-fulfilling prophecy, in other words it works because people believe it will work. For example, let's say that some traders believe that Fibonacci works, maybe even big traders like institutions, banks, and hedge funds. If these traders believe that EUR/USD will hit resistance when a leg of the downtrend retraces 38.2%, some of them will place sell orders at that exact point. If enough sell orders accumulate at that level, a wave of selling pressure will be unleashed on the currency pair if and when the 38.2% level is reached. Perhaps that is what happened in late October, as EUR/USD rocketed straight up to the 38.2% retracement of the move that began in mid-September and promptly reversed (see figure 1)


Figure 1: 38.2% Fibonacci retracement acts as resistance on the EUR/USD daily chart. Source: Saxo Bank

Is this a coincidence? It could be, but isn't it kind of strange that a movement of about 2500 pips would choose that exact location to stage a major reversal? I was highly skeptical of Fibonacci techniques when I first learned about them, but I have seen so many cases like the one above that I've become a believer myself.

Now if I'm correct in my assessment that Fibonacci works because it is self-fulfilling, then it makes sense to use it in the form that is used by most traders. You'll notice that in my examples, although I often display additional levels, I use only the 38.2%, 50%, and the 61.8% Fibonacci retracement levels – that's all. I don't use Fib extensions, Fib arcs, or Fib Trendlines. I stick with the major retracement levels because that's where I believe most traders focus their attention. After all, we don't want our order sitting out there alone; on the contrary, we want as many "friends" as possible entering the same trade at the same time as we are. A large enough quantity of buy or sell orders, bunched up together in a strategic location, could change the direction of the exchange rate.

So what about Fibonacci Fans? These are Trendlines that are created from Fib retracement levels. Now I don't necessarily believe that Fib Fans are used as widely as Fib retracements, so I don't use them. On the other hand, take a look at the recent action on the daily chart of USD/CAD; after staging a huge rally, the pair pulls back to its 61.8% Fib Fan line before finding support. Again, this could be a coincidence – in fact I believe it probably is a coincidence, because I don't believe that huge numbers of institutional traders are using Fib Fans as a part of their analysis (see figure 2).


Figure 2: 61.8% Fibonacci Fan line acts as support on the USD/CAD pair. Source: Saxo Bank

Finally, there are Fibonacci Arcs, Fibonacci Extensions and the rest of the ever-growing Fibonacci family of indicators. Fibonacci Arcs are curved lines that anticipate support and resistance in the same way that Fibonacci Fans do. I don't use them personally, because I don't believe that they are widely used by institutional traders. It's helpful to keep the following in mind – software that provides Fibonacci Arcs and hundreds of other indicators to Forex traders have only been widely available to the general public for about fifteen years, since the dawn of the internet boom. Yet somehow, traders made money before all of this fancy software became available. Could it be that traders made money over the years by keeping things simple, without all of the bells and whistles that are available today, and that modern day traders are turning the simple act of trading into an overcomplicated mess? Hmmm…

In recent years, it has also become trendy to use Fibonacci settings on moving averages and Bollinger Bands, among other things. In my opinion this is just ridiculous; it's not as if these numbers contained some magic key to the universe, so let's not treat them that way. In summary, if you're new to Fibonacci, take it slow and stick with the basic stuff, like Fib retracements, and good luck!

Too Funny - Ed Ponsi on CNBC

Watch me crack up the hosts of CNBC's Squawk Box with my comments on Citibank...near the end of this video.

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The Pound is Losing Weight

The Pound is Losing Weight
By Ed Ponsi

Hello from New York! It seems that one of my comments from last week's article confused the heck out of a few folks, and that's not surprising because it goes against conventional Forex trading wisdom. Please take a look:

Q) Hi Ed, just a quick question regarding your newsletter, I found it great. You explained in the last few lines that 'When the ECB and the Bank of England get serious about growth and cut rates more deeply, expect to see these currencies recover'. Is it not true that currencies get weaker if the interest rate is lowered? Can you explain what I am missing? Look forward to reply.

Q) It has always been my understanding that when there are rate cuts, the currency tends to weaken, not recover. It seems that the UK and EU have a lot farther to go with regards to rate cuts and therefore, the currency has more potential to weaken than the US dollar. Is this still the case?

Ed Ponsi) Thank you for your questions, it's nice to know that someone is paying attention! You're both right, conventional wisdom would say that higher rates would support the Euro and the British Pound, yet I stated that rate cuts were needed to improve the weakness we've seen in these currencies. Have I lost my mind? Not completely, but that's a question for another newsletter.

In a normal market, I'd agree that conventional wisdom would apply, and that lower rates would hurt the Pound and Euro – but the situation we find ourselves in is anything but normal. The fact that the Euro and Pound have higher interest rates than the U.S. Dollar has done nothing to prevent them from being crushed over the past three months, and currencies with even higher yields, like the Australian Dollar and the New Zealand Dollar, have been equally bad (unless you're short). In the current Bizzarro World of Forex trading, it is the low yielding currencies that have taken center stage as the strongest currencies, and the high yielders that have fallen the hardest – the exact opposite of normal Forex activity. Here is the current interest rate environment for the major currencies:

Currency

Interest Rate
New Zealand Dollar 6.5% Australian Dollar 5.25% Euro 3.25% British Pound 3.00% Canadian Dollar 2.25% Swiss Franc 2.00% U.S. Dollar 1.00% Japanese Yen 0.3%

Consider this; the two best performing currencies of the major currencies during the third quarter have also been the two with the lowest yields – the U.S. Dollar and the Japanese Yen. In the U.S., the Fed Funds Rate sits at 1.00%, and is expected to fall to as low as 0.5%. Meanwhile, the Bank of Japan has lowered rates to 0.3%. Yet the greenback and the Yen have been crushing everything in sight - it's the carry trade in reverse!

Here's the way I see it – all of the above countries are going into or are already in a recession, and the policy of keeping rates relatively high in Europe and Great Britain is going to lead to an even deeper recession in those places. Mervyn King and Jean Claude Trichet, the respective leaders and chief policy makers of the Bank of England and the European Central Bank, seemed unduly concerned about inflation at a time when growth should've been the major concern. But as we will see next, that view is changing...

Q) Hi Ed. Wow exactly it happened!

"If the entire civilized world is falling into a recession, why is the Pound taking it on the chin? The Bank of England's Monetary Policy Committee has simply been too slow to cut the U.K.'s benchmark interest rate, which remains at 4.5%. The MPC's reasoning is that it must control inflation, but with world markets collapsing and crude oil falling below $70 per barrel, the pendulum has shifted and the time for action has come. In my opinion, the MPC should immediately be cut by another 150 basis points, but that's highly unlikely. I'm looking for more downside on the Pound."

You know what I feel today, I think King Mervyn has signed up for your newsletter and he's simply following you. Just kidding, anyway what is your opinion now on GBP after their rate cut? Thanks, keep up the good work.

Ed Ponsi) Thanks for your email and your kind words. The big rate cut by the Bank of England shows that King and the Monetary Policy Committee now "get it", however belatedly, and that the problem is not inflation, it is growth. In a complete about-face, King now says he is ready to reduce rates to 'whatever level is necessary' to counter the economic storm. Some even believe a zero percent rate is possible in the U.K. next year. That's a far cry from his "fight inflation" mantra from earlier this year. Don't be surprised to see the BoE cut by another 100 basis points as they try to get on top of the growth problem – a problem that would've been less damaging if they hadn't fallen behind the curve earlier. The damage is reflected in the daily chart of GBP/USD, which continues to spiral downward (see figure 1).

Figure 1: GBP/USD continues to probe new lows, crossing below 1.5000. Source: Saxo Bank

How low will it go? Nobody knows for sure, but I certainly wouldn't recommend stepping in front of this freight train. A look at the monthly chart shows big support at 1.4000, formed way back in the early part of this decade, which could come into play (see figure 2).

Figure 2: GBP/USD monthly chart shows a major support near 1.4000. Source: Saxo Bank

Last but not least, the GBP/JPY currency pair, one which we've been bearish for months, continues to plumb the depths and is also threatening to reach new lows (see figure 3).

Figure 3: Descending triangle on GBP/JPY suggests new lows are coming. Source: Saxo Bank

Once again, don't fight the trend. Good luck!

Forex TV - PM Exchange

Hi Everyone,

Here is a clip from yesterday's Forex TV appearance. We discuss the immediate future for the US Dollar, the Euro, the British Pound, and the Japanese Yen. Enjoy!

Dollar and Yen on Fire, But For How Long?

Dollar and Yen on Fire, But For How Long?

By Ed Ponsi

The plunge in EURUSD has Americans everywhere asking one very important question: is it too late to catch a flight to Germany for Oktoberfest?

Greetings from London! We are living and trading in historic times, as the credit crunch has thrust the U.S. Dollar and the Japanese Yen into the stratosphere, while crushing the British Pound, the Euro, and other major currencies. To get a feel for the scope of this move, let's have a look at the monthly chart of the Great Britain Pound – U.S. Dollar chart (symbol GBP/USD). We can see that the GBPUSD rally, which lasted for the better part of this decade, has given back the majority of its gains in just three months. A drop of nearly 4000 pips has sent the pair crashing through all of its major Fibonacci support levels.

London is one of my favorite places to visit, but it's even more fun for an American like me when my currency has some real buying power. For example, a nice meal at the pub next door to my hotel still costs about 30 GBP, same price as usual. Last November, when the GBPUSD exchange rate was about 2.10, that meal cost $63 (30 x 2.10 = 63). Now that the exchange rate has plunged to 1.60, that same meal, as measured in U.S. Dollars, costs just $48 (30 x 1.60 = $48). Now take that meal and multiply it by all of the goods and services that Americans purchase from the U.K., and you get a feel for the size of this move, and the impact it has on these two countries.

Of course, the rise of the dollar is not contained to the British Pound; the rampaging U.S. currency has also undone most of this decade's Euro rally as well. The plunge in EURUSD has Americans everywhere asking one very important question: is it too late to catch a flight to Germany for Oktoberfest? Sadly, the answer is yes. If it seems like it's only been a few months since the once-mighty Euro was smashing it's way to new all time highs vs. the greenback, that's because it really has been just a few months.

The buck is rallying due to frazzled investors dumping shares and stashing the proceeds into U.S. Treasuries, one of the best ports for financial safety in any storm. When you buy a Treasury, you are really lending money to the U.S. government. The vast size of the U.S. government's debts makes for a huge, liquid market in U.S. Treasuries, where institutional traders can ride out the storm. For more on this topic, check out last week's article "Forex and U.S. Treasuries".

Although the USD has rocked the house recently, there is another currency that has been so strong, it has even beaten the buck. Of course I'm talking about the Japanese Yen, which has been on an incredible roll vs. the rest of the world. The Yen has performed particularly well against the Great Britain Pound, which comes as no surprise to regular readers of this column. Two weeks ago, we walked readers through a short sale trade of GBPJPY, and in an early September article we laid out the technical case for shorting this currency pair, followed by another article that presented a fundamental argument for selling it. Well, I don't think anyone could have anticipated what a fantastic pair this would be to sell short, as GBPJPY crashed to multi-year lows. Once again, thanks for your kind words and congratulations to all of you who shorted GBPJPY along with me

I'm sure many of us wish the GBPJPY Express would continue its southbound trek, but nothing lasts forever. While its way too early to call an end to the trend, its might be difficult for the Yen to keep this pace due to the threat of intervention by the Bank of Japan and other Group of Seven central banks. In other words, Japan is threatening to sell the Yen in massive quantities in order to weaken it, causing pairs like GBPJPY to rise. Because Japan has an export based economy, a strong Yen is bad for business, as big exporters like Toyota and Canon are losing sales due to the falling exchange rates of USDJPY, EURJPY, and GBPJPY. Japan may even get help from other G7 countries in weakening its currency, according to an October 27 statement from the G7 itself. This rare currency volatility warning by the G7 has been interpreted as a sign that Japan and others may step into foreign exchange markets and artificially force down the Japanese currency if the Yen continues on its current rampage.

"We are concerned about the recent excessive volatility in the exchange rate of the yen and its possible adverse implications for economic and financial stability," said the G7 statement. While this may sound innocent enough, the implications of the statement are huge. If Japan intervenes, the real winner will be the U.S. Dollar, the currency that the Bank of Japan (BoJ) is most likely to buy in mass quantity as it is selling Yen. If the BoJ starts pushing USDJPY higher, do not get in the way – in its last major intervention, the central bank caused USDJPY to climb about 700 pips over a three-week period in early 2004.

Last but not least, thank you for all your kind comments and emails regarding my recent series of appearances on CNN. Yes, it was a blast and as you can tell, I loved every minute of it.

Ed Ponsi

Forex and U.S. Treasuries

Hola from Mexico City! It seems that the markets are interconnected to a greater degree than ever before – last week's article on the Dow/ Japanese Yen trade is just one example of this phenomenon. With that in mind, I have a great question from a reader this week regarding another important relationship - the impact of the buying and selling of U.S. Treasuries on the Forex market. Here it is!

Q) Hi Ed, I follow your work and it's provided some very good insight. I have a two-part question. With all the short term volatility we're seeing, I read that the TED spread is one of many good barometers for this. In order to gauge the next stage in the cycle should we be looking at the 2 year or 10 year Treasury to gauge what's coming 6 months to a year from now? Also, how are the Treasury yields interpreted? Thanks for your response.

Ed Ponsi) Thank you for your question, I'll take part two of the question first. When it comes to interpreting Treasury yields, there is an inverse relationship between price and yield. In other words, when the price of the bond rises, that bond's yield falls. For example, let's say that you purchased a new bond with a yield of 4% at a price of 100, also known as "par". Let's assume that a year passes, interest rates rise, and new bonds come available that yield 5% at par. Well, assuming that the safety and the maturity date of the bonds are similar, the 4% bond is no longer as attractive as the 5% bond. You can't sell the 4% bond for 100, because bond buyers will simply opt to purchase the higher-yielding 5% bond at the same price. So, you must sell the bond at a discount price. To the new purchaser, his return on the 4% bond is actually closer to 5%, because when it matures, the bond he purchased at a discount (less than 100) will be worth 100. This makes up for the fact that the bond yields only 4%.

The recent fear that has gripped global markets is reflected in all maturities of U.S. Treasuries, but especially on the short end, for example the 3-month Treasury bill. Why is so much of the action contained in the near-term maturities? Imagine that you are a hedge fund manager, and you want to protect your clients. You simply want to get out of the markets and stash that cash in a safe place. You start buying 3-month Treasuries (T-Bills), because no matter what happens, you are going to get all of your money back at par within three months. Fund managers, investment bankers, and other investors, both individual and institutional, have been piling into T-Bills at an incredible rate – they have been buying, which drives the price higher and the yield lower. Here is a chart of the yield of a three-month T-Bill (see figure 1).

Figure 1: The yield on 3-month T-Bills craters in mid-October. Source: theFinancials.com

Last week, the yield on 3-month T-Bills dropped to virtually nothing. Investors were scooping them up anyway, because in a risky environment such as the one we're in right now, the philosophy of "better safe than sorry" is the way to go. Investors enjoy the certainty of knowing that no matter what happens to the price of these investments between now and the maturity date, they will mature at par.

The same can be said for the 2-year and 10-year Treasuries, but that is a longer time to wait and a lot of opportunities missed until maturity. So traders who opt for Treasuries with longer maturities have "price risk" – if they want to free that capital to invest at any point prior to maturity, they will have to take what they can get on the open market when they sell those Treasuries. Short and long term maturities offer the certainty of knowing that you can get your capital back at par, but many of the current buyers of 2-year and 10-year Treasuries will not wait until maturity to cash out. Somebody out there has been buying 2-year Treasuries, as evidenced by the chart (see figure 2).

Figure 2: 2-year U.S. Treasuries rise in price as the credit crunch intensifies. Source: Saxo Bank

This is a weekly chart of the price of 2-year U.S. Treasuries. The huge spike that appears to occur in late 2007 is a "bad tick" and should be ignored. A rising price indicates that investors are buying, and as the price rises, the yield is falling. Notice how the price begins to climb in the summer of 2007 - right around the time when the word "subprime" entered our vocabulary. Prices fell (and yields rose) in early 2008, as markets calmed down a bit, and then prices began to rise again (driving yields lower) this summer as the crisis became full-blown with the collapse of Lehman Brothers.

Regarding the TED Spread, which is explained in this previous article, it is a terrific way to gauge market fear, much like the VIX (volatility index). Both have come off of extreme highs, showing a possible light at the end of the tunnel for equity markets (see figure 3).

Figure 3: TED Spread drops suddenly, indicating greater confidence in bank lending. Source: Saxo Bank

It appears that banks are now more willing to lend money than they were last week, when the TED Spread hit its recent peak. Still, the level of fear is much higher than normal. Prior to the collapse of Lehman in September, the TED spread was about 1%. If it falls back into that 1% range, it will indicate that confidence has returned, and that the worst of the credit crisis may have passed. That would bode well for stocks, and bond prices would likely fall as traders pull money out of Treasuries and put that capital to work in the equity markets.

Have a question about Forex trading? Send an email to info@fxeducator.com and we may use your question in an upcoming newsletter. Until next time, best of luck to you in trading.

Ed Ponsi