Trading with a Volatility and Potential Risk Shift Ahead

We are in the midst of a serious risk aversion move. If we were to use US equities as our benchmark for the shift, it would look well formed and durable. However, when we look at the Forex market (AUDUSD, EURUSD) or underlying Risk-Reward measures; it looks like we are still very early int he move. That is concerning because a lack of structure could spell a failed trend given the change in market conditions next week. Though we have a lot of thematic issues still in the docket, we have a US holiday that is known for draining speculative liquidity - and there is no surer way of killing a trend than curbing participation.

Heading into next week, I still have for trades on the books (all currently in the green). Two of them have explicit risk profiles and are therefore at the greatest risk of reversal. My short AUDUSD from 1.0380 hit its initial target (equal to risk at 1.0295) and I have trailed the stop on the remaining half not to break even but 1.0410 - to account for possible volatility. My NZDUSD short from 0.8175 (stop 0.8265) has also hit its first target (equal to risk +85) but I have not trailed my stop on the remaining half because the pairs risk profile has broke down and I like it on a more fundamental basis.

My concern with exposure that has a risk-sensitivity is that with the absence of liquidity, any prevailing trends will lose momentum - and the current trend is risk aversion (and an early one at that). My non-risk pairs, on the other hand, aren't as sensitive. My AUDCAD short from 1.0400 (stop 1.0455) has hit its first target (equal to risk +55) but I have not trailed up my stop due to the pattern and lack of risk exposure. A new USDJPY long from 80.75 is in a small size and is meant to be a longer-term trade given my fundamental outlook and the significant trendline that was recently taken out. My stop is losely set at 79. No target.

Moving forward, I have setups for three different segments of trade potential.

Risk Off

If risk aversion continues next week despite liquidity issues, I like EURJPY reversing from its long-term channel top at 103.50; adding to AUDUSD near 1.0350 or on a break below 1.0150; and EURUSD reversing from 1.2825 or below 1.2650.

Risk On

There is a two-tier situation here where risk can simply temper or actually reverse. To temper would likely see a 'correction' while a reversal could develop a trend in the opposite direction (again difficult given liquidity). For a basic correction I like GBPNZD trading back from 1.9650 (entry is important) or EURUSD breaking above 1.2825 (if Greece does recieve its aid tranch approval Tuesday). For a full blow trend, I like GBPJPY breaking long-term wedge above 129.50 and CADJPY doing the same at 81.35.

Non-Risk

And, of course, I need non-risk style pairs. I like AUDNZD breaking the neckline on a head-and-shoulders near 1.2700 and EURCHF long from 1.2007 (though I may change the levels and spread out entry depending on Tuesday's event risk).

--- Written by: John Kicklighter, Senior Currency Strategist for DailyFX.com

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