Something extraordinary happened today: stocks fell for once. Now you might be thinking that I am a perma-bear, but I promise you I am not. Believe it or not, I actually prefer it when the markets go up. But the reason I sound mildly excited is that the stock market sell-off has injected some much-needed volatility in the FX markets, which have been very quiet so far this week due to the lack of significant economic news. Perceived safe haven currencies such as the Japanese yen, Swiss franc and to a lesser degree the euro all gained ground as the stock markets sold off.
But it remains to be seen whether the sellers would maintain control heading into the close. How Wall Street closes today’s session could have a big impact on Friday’s trend. If the indexes bounce significantly off their lows then we may see some bullish follow-through on Friday, which could help lift the likes of the USD/JPY and USD/CHF off their lows. However, if the stock market weakness persists, the Swiss franc and Japanese yen could rise further.
An interesting FX pair to watch heading into the end of the week is the EUR/JPY, which tends to have a strong correlation with the stock market. This pair was actually trading flat at the time of this writing despite the stock market sell-off. In fact, so far this month, it has had no consistent correlation with the stock markets, but typically the correlation coefficient is around the 0.80 level.
The EUR/JPY was testing liquidity above the previous day’s range and pulling back a little when this report was written. Failure to hold above the previous day’s high of around 132.17 would be the first warning sign that further losses could be on the way. But for us, a closing break below key support at 131.75 is needed for confirmation. Unless that happens, we would hesitate to turn bearish on this pair despite the Wall Street sell-off. A daily close above 132.17 level on the other hand could possibly pave the way for a rise towards the range highs again.