EUR/USD at Long-Term Inflection Point

The EUR/USD has recently rebounded after steadily falling throughout September. In early October, the EUR/USD made a low of $1.3146 and has undergone a sharp rally since – closing at $1.4145 as of Friday (October 28th). The chart (one year daily) at the bottom of the article shows the movement of the EUR/USD, as well as major support and resistance levels encountered over the past 12 months. The blue line on the chart (Dow Jones Industrial Average) and its relation to the currency pair will be discussed shortly. The Friday close sets up a pivotal moment in the technical picture for the EUR/USD. Friday's closing price rests directly on top of its former upward trend line, which was broken during the September decline (green line on chart). The old trendline is still a relevant relevant reference even though it had been previously broken – such lines tend to act as resistance for future advances. How the EUR/USD acts at this level will determine if this is simply an upside correction in a down market, or if the pair is going to trend higher after a false breakdown – squeezing shorts in the process. One of the concerns with this pair at the moment is that it has once again entered the June to August price range. Throughout June and August, the EUR/USD meandered between $1.47 and $1.40, with most of the action taking place between the $1.46 and $1.41 levels. This is a high concentration area, and may serve as a place of consolidation once again. The Upside The dollar's false breakout (climbed as high as $1.31454) is significant given the size of the move. The fact that dollar bulls could not hold the Euro down after a large breakout is a sign of potential future U.S. dollar weakness (especially given the recent agreements reached in Europe). If the Euro can move above $1.4600, it could open the flood gates for a significant rally, as shorts get squeezed out of the trade (also known as a bear trap). If the Euro should break that level once again, a re-test of the 2010 high of $1.5145 would appear likely. Considering the fact that the currency pair is entering into a hotly contested range, choppy trading is to be expected, taking into account the numerous support and resistance levels throughout. The next resistance area for the Euro, should it continue its move, is $1.4330 to $1.4571. This is a fairly wide resistance band, but given the amount of trading which took place in this area during August, it is likely to act as a buffer for future moves. Beyond that zone, resistance comes into play at $1.4700, $1.4760, and $1.4940. The Downside There is also the possibility that we are simply seeing a short-term rally in a broader EUR/USD decline. The downward sloping trend (red line on the chart) is still intact, and highlights the fact that despite the recent upside move for the euro, it is still in an overall downtrend which dates back to May. If the trendline holds, the Euro should not be able to climb above $1.4400 and selling should resume, making a retest of the $1.31454 low appear imminent. The next levels of support for the Euro come in at $1.3914, $1.3650, and $1.34. A break below $1.3145 would create a new low, which could extend down to $1.2870 - the major low seen in January 2011. Noteworthy Correlation The EUR/USD continues to have a high correlation with equity markets. On the chart, the Dow Jones Industrial Average is highlighted with the blue line. While the correlation is not perfect and shows weakness at times, it always (at least over the past year) tends to snap back. Over the past 30 days, the Dow and the EUR/USD have moved in near perfect unison. Both the pair and the index bottomed on the same day (October 4th) and have rallied aggressively in tandem since. Given this correlation, the EUR/USD can, therefore, provide some clues as to the direction of the overall market. If the euro should continue its run and break above the $1.46 level, it may set up a retest of the May highs for all major U.S. indices. Conversely, the same goes for the downside. If the Euro breaks down again, major U.S. indexes will once again falter, setting up a test of their October lows. Bringing it Together The EUR/USD is at an inflection point. The close proximity of both the former uptrend line and the current downtrend indicate that this is a crucial moment. The indexes will either follow the euro into the toilet, or will break through resistance and push towards the highs seen earlier in the year. The correlation with US equities should be watched closely. When the EUR/USD and the major indexes deviate, it usually (at least in recent history) has served as a warning sign that a large correction is imminent. The current directional bias is neutral. A move above $1.4400 would shift the bias to slightly positive, while a drop below $1.39 would shift the bias to slightly negative. Keep a close eye on the support/resistance levels named earlier in this article, as they will provide confirmation of the move.