Earlier today, my colleague Fawad Razaqzada and I discussed the abnormal strength in the Canadian Dollar today. Fawad cited the consistent uptrend in oil as one of the biggest causes of today’s surge. Because Canada is a major exporter of oil and fortuitously located near the world’s largest consumer nation, the Canadian Dollar tends to be closely correlated with oil prices.
Indeed, the price of West Texas Intermediate crude oil finally broke out above a week-long symmetrical triangle pattern (see 1hr chart below) suggesting that the recent uptrend may yet have further to run, especially with concerns about geopolitical tensions in the Middle East flaring up again today. Logically, a further rise in Oil prices would continue to underpin the recent CAD strength.
Out of all the major currency pairs, the CAD/JPY historically shows the strongest correlation with oil prices. This is not surprising because Japan has minimal oil reserves of its own, meaning that it is forced to import oil to cover its energy needs. Japanese energy needs from oil have also risen over the past year due to country’s decision to shut down all of its nuclear power plants in the wake of last year’s nuclear meltdown. Thus, rising oil prices benefit the Canadian economy and simultaneously weaken the Japanese economy.
All of this fundamental analysis is interesting, but traders should always look for technical confirmation before taking any trades. A quick look at the CAD/JPY daily chart reveals that the pair recently broke out to new 3-month highs above the 50% Fibonacci retracement of the late March high at 84.95 (point A) down to the June 1 low at 74.40. The next level of Fibonacci resistance is the 61.8% retracement just below 81.00, opening the door for another 100+ pips of rally potential in the pair.
Meanwhile, the 4hr chart reveals a strong bullish trend line dating back to late July. This morning’s breakout formed a Bullish Engulfing Candle* on the 4hr chart, showing strong buying pressure and suggesting that future pullbacks are likely to find support quickly. Overall, the stage is set for further CAD/JPY rallies; the only question is how readers can trade this setup.
One possible trade would be to wait for a pullback toward the bullish trend line, placing a limit buy order at 79.45, with a stop loss at 78.90 (below trend line support and the 79.00 handle) and a target at 80.50 (ahead of the Monthly R2 pivot point and 61.8% Fibonacci retracement on the daily chart). By waiting for a shallow pullback to the trend line, traders can set up a trade with less risk and a greater potential reward. This trade would be invalidated if not triggered by the end of this week’s trade, or by a rally above 80.50 prior to entry.
Potential Strategy: Buy if CAD/JPY pulls back to 79.45, stop at 78.90, target at 80.50.
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*A Bullish Engulfing candle is formed when the candle breaks below the low of the previous time period before buyers step in and push rates up to close above the high of the previous time period. It indicates that the buyers have wrested control of the market from the seller.
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