A combination of technical and fundamental factors helped contribute to a huge rise in the U.S. Dollar against all major Forex pairs on Wednesday. This action sent commodity-linked currencies like the New Zealand Dollar and the Australian Dollar into a tailspin as longs scrambled to get out of their positions.

The biggest surprise today was how fast the U.S. Dollar gained strength given the recent weakness. Gone was the constant chatter of “green shoots” that had peppered financial market commentaries for the past 90 days. Today’s action looks as if fear has returned to the marketplace and that the U.S. Dollar is once again being treated as a much sought after safe haven currency. This goes to show investors that markets driven higher on sentiment rather than real numbers are doomed to fail at some point.

Technically, all of the major Forex pairs had reached 50% retracement levels of their almost yearlong breaks. This is usually an area where sellers feast and today’s action was no exception. Looking ahead, the next move up in the U.S. Dollar could be a big one as this market will most likely retrace its entire break. This means huge corrections to the downside for the British Pound, Euro, Australian Dollar and New Zealand Dollar and corrections to the upside in the USD CAD, USD JPY and USD CHF.

Fundamentally speaking, weaker than expected U.S. economic data helped bring back concerns that an economic recovery would be labored and tumultuous. Today’s action was a strong demonstration of the fact that rallies based on positive investor sentiment are no reasons to believe that an economy is turning.

Wednesday’s rout gained momentum following the release of the monthly ADP report which showed more than half a million U.S. private sector jobs was lost last month. This news raised concerns that Friday’s U.S. Non-Farm Payrolls Report will be worse than estimated. The fear that hit the market today demonstrates how nervous traders have become. Although many traders still believe that the unemployment report is a lagging indicator and that looking forward the economy may be improving, today’s sell-off shows that they do not trade their beliefs but rather order flow and market action. Clearly, today’s sell-off shows that no one was willing to step in the way of the massive amount of sell orders.

The recent over-exuberant selling against the Dollar was also dealt a blow today when it was reported that Asian central banks have decided to continue to buy U.S. Treasury debt even if the U.S. debt rating gets downgraded. This news gave the U.S. Dollar an additional boost and could have long-term ramifications as it may bring more investors back to the Dollar. Recently selling pressure hit the Dollar after a debt rating service lowered the U.K. rating. Many traders believed that the U.S. Dollar was next in line for a downward adjustment.

Now that doubts have been cast on the view that the global economy has bottomed and started a turnaround, tomorrow’s central bank reports will have added importance.

At this time the Bank of Canada is expected to leave its benchmark rate at .25% and refrain from any additional quantitative easing or financial stimulus.

The Bank of England is also expected to leave its benchmark rate unchanged but traders are still trying to figure out whether it will announce additional quantitative easing or an end to its aggressive program. Recently, the BoE has received criticism from both sides of the issue.

The most important meeting tomorrow will be the European Central Bank. Recent talk centered on cutting its benchmark rate to below 1%. Cutting this rate will be a market mover with a strong bias to the downside. After last month’s meeting the ECB announced a much awaited plan to apply quantitative easing. The recent failure by the Fed to stimulate any change in long-term interest rates with its QE program is raising concerns at the ECB that this type of action is too inflationary. Look for rates to remain unchanged and for the ECB to curtail or drop its QE plans altogether.

Although the short-term trend is still down in the Dollar, today’s aggressive rally has put it in a position to post a weekly reversal up. The trading action over the next two days will decide whether the Dollar has the buying power behind it to start at a minimum a 2 to 3 week rally.


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