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WEDGE FORMATIONS


The Euro's Broadening Wedge, Descending

11/13/00 02:39:05 PM
by David Penn

The euro's persistent downtrend has been made interesting by the European Central Bank's efforts at intervention. But are we going up or down?

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It seems as if the only euro bulls are the bankers of the European Central Bank or ECB, who have repeatedly intervened on behalf of the sagging currency. While the first intervention effort this fall was an international effort, drawing in both the Japanese and the U.S. Treasury, the ECB's two most recent interventions have been go-it-alone affairs. In either case, intervention, at first, does not seem to have done much more than slow down the euro's descent.

Presently, looking at the December euro, it is clear that the downtrend of the euro has moderated somewhat. But also there has been increased price volatility in the retreat of the December euro, variability that has created a broadening wedge-like pattern from early July until the end of October. The euro's wedge formation is characterized by little price variability in the early summer growing into wider ranges by September (see chart). While price fluctuations became more extreme in the autumn months, the overall direction of prices remained downward. The price ranges in September, for example, are almost twice as great as those in July.

Pictured is the December euro's descending, broadening wedge. Prices have failed to penetrate either trendline, though upside breakouts came close in September and late October.
Graphic provided by: Barcharts.com.
 
This is a characteristic of descending, broadening wedges--as outlined by the two downwardly sloping trendlines connecting the December euro's highs in July, September and November on the "resistance" side, and connecting the contract's July, August and September lows on the "support" side. What complicates the analysis, however, is the fact that descending, broadening wedges--whether coming on the tail end of a downtrend or an uptrend--usually signal a bullish move in prices.

Looking at the December euro, there are two touches of the top trendline since volume peaked during the formation (volume tends to grow during the formation and peak shortly before an upside breakout), but no breakout. While the failure of prices to decline all the way to the lower trendline in October can be seen as a bullish sign, the subsequent rally did not result in a trendline breakout, only another touch. The short-term movement of the December euro--likely a response to the pair of ECB interventions this fall--is clearly bullish. And the 9-day moving average is breaking out over the 18-day moving average in November--which tends to anticipate higher prices in the near-term.

But the euro's secular downtrend is not to be ignored, a downtrend that has been largely undeterred since the currency's inception. As such--and given the ECB's solo intervention efforts and the current queasiness in the U.S. equities market--the December euro may be especially prone to false breakouts on the upside as euro bulls forage about for a bottom and euro bears cover their shorts. In fact, it is possible that the ECB's actions are largely responsible for the present broadening formation, the increased price ranges (though still moving lower), signifying a struggle between longs buoyed by the ECB's buying of euros and shorts moved more by the endurance of the euro's secular decline.



David Penn

Technical Writer for Technical Analysis of STOCKS & COMMODITIES magazine, Working-Money.com, and Traders.com Advantage.

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