Wanted: A Few Good Bulls (Forex)

5/7/2007 6:12:48 PM
By Vadim Pokhlebkin(elliottwave.com)
This is a big week for the Fed, ECB and BOE watchers. The Federal Reserve will announce its latest interest rates decision on Wednesday (May 9), and the European Central Bank and the Bank of England will speak out the day after.
While the U.S. dollar is up so far this month, the euro has been gaining recently – on nothing but speculation and hope. Hope that come Wednesday, the Fed "will point to signs of U.S. economic weakness, reinforcing the case for a cut in borrowing costs." (Bloomberg) And then on Thursday, the ECB will hint it will raise rates in June, while the BOE will go ahead and do it right now.
None of it sounds like good news for the USD. If the Fed cuts rates, goes the mainstream thinking, and the ECB and BOE will keep raising theirs, pretty soon dollar-denominated assets will completely lose their appeal in favor of euro- and pound-denominated ones. Already, reports Bloomberg, "The difference in yield between 10-year German bonds and Treasuries has shrunk to the smallest since 2004," sending many investors to "look elsewhere."
The world's central banks are getting nervous about the dollar, too. The IMF says that in the fourth quarter of 2006, "the dollar accounted for 64.7% of global currency reserves, down from 65.8%" in Q3 of last year. The euro's share, on the other hand, has risen to 25%, and by 2010 it may store up to 40% of the world's reserves, says Deutsche Bank.
Bottom line, the USD is cornered by the “fundamentals,” and it’s almost as hard to find a dollar bull as it was back in December 2004, when it stood at the previous all-time low against the EUR. Currently, in a survey of 10,868 people, Yahoo! Finance finds that 92% of respondents believe the “dollar will remain under pressure in the coming months.” In the U.S. Dollar Index, the intermediate-term 21-day percentage of dollar bears has just skyrocketed to 85%.
Experienced forex traders know that when a market gets so one-sided, more often than not it's a sign of an impending reversal. Remember how anti-dollar market sentiment was in December 2004, right before the USD's big one-year rally? When the question is about the direction of a financial market, the majority can be wrong.
However, one-sided sentiment is not always a guarantee of a market turnaround. What helps is to couple the sentiment data with a well-made Elliott wave count. In fact, from an Elliott wave viewpoint, while it generally pays to fade the crowd, there is one important nuance. There is a point in the wave pattern when the crowd “gets it right.” It’s the middle of the third wave, the so-called point of recognition, when the crowd realizes underlying trend and chases after it, giving the market the fuel to go farther, and fast.
Are we in the middle of a third wave rally right now? Not according to our Currency Specialty Service analysts; furthermore, they point out that, "Multiple daily indicators [in the EUR/USD] are rolling over from overbought territory. This is a rare occurrence. The last two times this alignment was visible was late November/early December 2006 and May 2006. Both time a significant top was registered."