Inside the Currency Market: Currency Market Realignment

Currency Market Realignment: The New Beginning

Posted in October was an outline of the historic currency market Realignment in development, a truly rare event in currency markets because it means currency pairs undergo a structural price adjustment. Pricing adjustments are structural in currency pairs and slow in development but its never seen in USD V non USD pairs rather structual price adjustments and its historic Realignment counterpart is seen only in cross pairs but most pronounced in JPY crosses. I reported in October when EUR/JPY broke 132, Realignment is occurring. Last week, EUR/JPY broke 132 therefore currency markets and prices are in formal Realignment ( a Noun in my opinion). A brief history, explanation and the trade forward.

A Realignment occurrs when cross pairs change allegiance, its periodic but periods remain based on market events. The last Realignment occurred in 1998 upon the Thai Baht, Russian Ruble and other crisis and lasted 10 years until the 2008 Housing market dilemma. Year 2008 was the end of the old period to begin a new cycle. Because Realignments are rare events, its not well known unless one knows how to find and interpret its occurrence.

When free floats began in the early 1970’s, central banks adopted monetary target polices where the object was target of money supplies in some fashion such as the Bank of Japan who targeted GDP. Most central banks throughout the 1970’s and 1980’s experienced utter failure when deficits ensued, Inflation skyrocked to 20% and currency prices saw high volatility. Realignments during the 1970’s and 1980’s occurred on average every 5 – 6 years.

Fast forward to the 1990’s when Monetary targets were discarded in favor of Inflation Targets. Inflation targets allowed Central banks to extend periods by their successes for the most part by sustaining Inflation therefore periodic Realignments were extended and volatility was depressed.

What periods and Realignments inform is what type of markets trade. From 1998 – 2008, the period was classified as risk on because not only did the EUR/USD hit historic highs but so did EUR/PY follow to hit its 169 highs. Economic times were good. Upon the 2008 housing market crash, the Realignment was classified as Risk off since EUR/JPY switched allegiance and economic times were atrocious. But Realignment is as much a price as well as economic structure. When the next Realignment will occur after the present is unknown. It could very well be another 10 years, 20 or longer. It depends on central bank management of their economies and currency pair positions.

A normal market structure occurrs when EUR/JPY is the market leader because its the most widely traded and dominates in percentages in daily market turnover every year since year 2000. For the past 7 years, highly neutral GBP/JPY adopted the new title of market leader. With the 132 break and allowance of time for prices to Realign, EUR/JPY will again become the market leader and GBP/JPY will again retain its position as neutral. More importantly, we now head into the period of risk on. This will take time to develop because prices in all pairs must realign and because currency prices are slow to move. The EUR/CHF break from a daily market trading perspective means the old structure will again see its day. EUR/JPY as risk on will measure against risk off EUR/CHF to determine the type of traded market.

The pairs affected in Realignments in JPY terms are first EUR/JPY then GBP/JPY and CAD/JPY. AUD/JPY and NZD/JPY retain their original position for now since both pairs were not affected nor are ever affected by market crisis. The wild card in the cross pair Realignment mix is CHF/JPY. In past periods, CHF/JPY followed the crowd. The correct position of CHF/JPY should be far far lower and USD/CHF should be above at least 0.9400’s. For neutral pair GBP/CHF, its position should be easily above 1.4900’s. All three pairs are out of alignment.

Many pairs are vulnerable in new Realignments. Since the focus of my Realignment example is JPY focused, USD/JPY becomes a free float pair so its price structure lives on its own. In past Realignments, USD/JPY experienced massive multi year sellofffs. Its vulnerable again to another selloff after Realignment completes and the ECB retains its economic posture.

Volatility will remain and should even increase since market prices are not random and its a market well corrdinated in its price structure to the new Realignment in front of us.

Brian Twomey

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