Top Trading

Opportunities for 2018

By the DailyFX Research Team

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December 29, 2017

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Top Trading Opportunities for 2018

Two familiar themes carried the financial markets through 2017: a persistently low level of volatility and
a seemingly ceaseless reach for greater returns. That translated into an environment whereby the
passive investor outperformed. Yet, another emotion had bubbled towards the surface through the end
of the year – skepticism over the speculative apathy. Will 2018 extend an unprecedented period of
steady speculative build up, or will volatility reshape the landscape and put traders back in control?

Click on each one of the boxes below to learn more about them.

John Kicklighter: David Song:

Chief Strategist Currency Analyst
An Inevitable Long Volatility, Long Aussie and Keeping Short & Long-Term Themes in Context
Kiwi, Long ETH/BTC with AUD/JPY
David Rodriguez: James Stanley:
Quantitative Strategist Currency Analyst
The Trend is Your Friend – Long ‘Risk’ into the Hurdles to Inflation Diverge for BoE and RBNZ for
New Year GBP/NZD
Jeremy Wagner: Paul Robinson:
Head Trading Instructor Currency Analyst
Sterling May Lose Some Shine in 2018 Resurgence of Volatility, SPX Runs into Trouble

Ilya Spivak: Martin Essex:

Senior Strategist Market Analyst
The Euro is Running Out of Reasons to Rise Crude Oil Faces A Run Not Sustainable by Supply-
Demand
Christopher Vecchio, CFA: Nicholas Cawley:
Senior Strategist Market Analyst
Looking to the Crosses to Key Monetary Policy Benefits are Expected to Flow More Readily to
(AUD/CAD) and Brexit (GBP/CHF) One Neighbor in USD/CAD Relationship
Michael Boutros: David Cottle:
Currency Strategist Market Analyst
Gold and AUD/JPY Offer Structural Technical Long: AUD/USD Looks Risky Now, But Give The
Opportunities in 2018 Trade Time
Tyler Yell, CMT:
Market Analyst
Extending a Larger Reversal in EUR/AUD

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John Kicklighter, Chief Currency Strategist

Permanent Rise in Volatility, Long Aussie and Kiwi, Long ETH/BTC

For many of the major asset classes and currencies, the future is murky. There are competing fundamental
themes that could take the reins with the right motivation, and we would find not only a new direction
but also a deliberate change in market intensity. Of course, trading is all about choosing the most probable
path with the most appealing trading return attached to it. I see compelling evidence of the likes of US
equities, the Dollar, Euro and more; but my true interests for 2018 reside with market opportunities that
would take advantage of normalizing from extreme imbalances. One of the most extreme is the
unprecedentedly low levels of volatility. This is not a new order or paradigm. It is a temporary state fueled
by complacency and distraction. When that starts to crumble, volatility will rise quickly. There are volatility
ETFs, futures and other derivatives as well as assets with a high correlation (like the S&P 500) which can
offer appealing outlets for such a development.

Data Source: Bloomberg. Prepared by John Kicklighter

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Another skew that will normalize with time are interest rates and the market’s appeal for meaningful
yield. Despite having the highest resting yield among the majors, the Australian and New Zealand Dollars
are trading at significant discount. All that is needed is an indication that the next move is a hike and it
can happen in 9 to 12 month’s time, and speculation will do the rest. Below, AUD/USD vs a Aussie Index.

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Finally, emergent markets – whatever they happen to be in the era we are investing in – tend to have
some of the best speculative opportunity in the financial markets. That is due to the lack of clear and
consistent pricing behind them. Through the final months of 2017, Bitcoin barreled higher. There is little
doubt that this move was speculative in nature, but it was the concentration in this high profile coin that
had me dubious. A ‘pair’ or ‘partial arb’ trade with a long Ethereum, short Bitcoin leg pursues balance.

Data Source: TradingView. Prepared by John Kicklighter

Index

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David Rodriguez, Quantitative Strategist

Long: Global Equities - The Trend is Your Friend – Long ‘Risk’ into the New Year

As much as I hate the cliché, 2017 once again proves the trend is your friend. The clearest examples
include the US S&P 500, Bitcoin, and broader global yields; these all continued higher with relatively little
interruption. There were and will continue to be important warning signs of reversal and we should not
ignore them. Yet to the extent global liquidity remains ample, I see little choice but to jump on the
bandwagon and remain long ‘risk’ into the New Year.

Thus I will look to remain long global equities as my top trade of 2018. Clearly we can’t reasonably expect
the S&P 500 will post another 20+ percent gain indefinitely, but time and time again we see that predicting
a reversal is a fool’s errand. The clear caveat is that trades and investments should always carry controlled
risk; a weekly close below its 200-day Simple Moving Average (currently 2,460) would indicate a trend
reversal may be underway.

Index

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Jeremy Wagner, Head Trading Instructor

Sterling May Lose Some Shine in 2018

Sterling finished 2017 on a strong note as the Bank of England lifted rates for the first time in over 10
years. However, their pace of hikes is expected to be gradual moving forward so the rapid appreciation
of GBP may be over heated. As a result, we are anticipating that much of the gains from 2017 may be
reversed leading to broad based Sterling selling.

We think there are several markets to buy and pair up against a weak GBP. For example, short GBP/USD,
short GBP/CHF, short GBP/JPY may be a few pairs to watch. One market in particular is carving an
interesting bearish technical pattern, GBP/NZD.

Since the low in November 2016, GBP/NZD has appreciated in a corrective red price channel. Prices briefly
over shot the top side of the channel in December 2017, only to return inside the channel. That GBPNZD
reversal occurred at equal wave measurement near 1.9671. It is quite possible that the downtrend
resumes from nearby levels to 1.80 and maybe even retest the November 2016 lows of 1.67.
If the GBP/NZD exchange rates continues to appreciate, then another opportunity to short would occur
near the June 2016 high. That 2.07 high represents the previous second wave in an extended fifth wave,
which may act as a reversal point. The 50% retracement level is also nearby. If GBP/NZD does rally, then
2.07 could be another area to consider short trades for a move towards 1.80 and possible 1.67 retest.

Bottom line, the shine of Sterling in 2017 may wear off in 2018.

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Data Source: TradingView. Prepared by Jeremy Wagner

Index

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Ilya Spivak, Senior Strategist

Short: EUR vs. USD, GBP – The Euro is Running Out of Reasons to Rise

The Euro enjoyed an undeniably stellar year in 2017. That seemed improbable on January 1 amid fears of
Eurosceptic triumph in key elections. Investors still shell-shocked after the Brexit referendum and the US
presidential election braced for the worst. Their fears did not materialize. The status quo held in the
Netherlands, France elected an energetic centrist in Emmanuel Macron, Italy managed the abrupt
transition from the Renzi to the Gentolini government, and Spain muddled through a separatist flare-up
in Catalonia. A pickup in economic growth sealed the deal, handing the single currency double-digit gains
on the year.

Having bypassed these political pitfalls however, the Euro may be out of reasons to continue building
higher. The ECB isn’t likely to be very helpful just as the spotlight returns to monetary policy. It has already
set the near-term fate of QE asset purchases and probably won’t be quick to alter it. Significant tightening
seems unlikely as the 2017’s Euro gains filter into on-year CPI data, slowing progress to the inflation target.
Meanwhile, a nasty outturn in Brexit negotiations remains a potent threat to financial stability on both
sides of the English Channel. Tactically, short EURUSD and EURGBP positions seem best to express Euro-
negative policy divergence and relative underpricing of Brexit risk premium.

Index

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Christopher Vecchio, CFA, Senior Strategist

Short: AUD/CAD, Long: GBP/CHF – Looking to the Crosses to Key Monetary Policy, Brexit

Short AUD/CAD as RBA Turns More Dovish, BOC More Hawkish in First Half of 2018

The major commodity currencies, the Australian, Canadian, and New Zealand Dollars, couldn’t be headed
into 2018 on more different footing. The cleanest economic-driven setup among the commodity currency
crosses may be AUD/CAD. Divergence between the Australian and Canadian economies is growing,
particularly as Australian growth cools into the end of 2017 while Canadian growth conditions have
markedly improved.

We’ll be looking for interest rates markets to twist at the beginning of 2018 to reflect a more dovish
Reserve Bank of Australia and a more hawkish Bank of Canada; it shouldn’t be dismissed for both an RBA
rate cut and a BOC rate hike in Q1’18. As such, further weakness in AUD/CAD is eyed so long as price holds
below its weekly 52-EMA (0.9868 at the time of writing). A weekly close below the January 2017 and
December 2017 swing lows near 0.9640 would open up a move down towards 0.9320, the May 2016
swing lows. Beyond there, a test of the three-year range lows near 0.9175 would be eyed.

Chart 1: AUD/CAD Weekly Chart (April 2013 to December 2017)

Data Source: TradingView. Prepared by Christopher Vecchio

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Long GBP/CHF as ‘Hard Brexit’ Fears Dissipate, European Political Risks Evaporate Further

The end of 2017 brought a dramatic positive turn of events in the Brexit negotiations between the UK and
the EU. With leaders agreeing that enough progress had been made on citizen’s rights, the divorce bill
payments, and the Ireland/Northern Ireland border, attention will be turning to the ever-important issue
of trade. Ultimately, what this means is that momentum is building for the ‘hard Brexit’ scenario to be
avoided. Moreover, in the wake of the news that the Brexit negotiations would be moving forward to
trade, embattled UK Prime Minister Theresa May saw her popularity jump – concerns of a failed
government resulting in another general election in 2018 may be misguided.

Accordingly, the dissolution of political risk in the UK thanks to the trajectory of a ‘soft Brexit’ landing
means the trend of European political risk evaporating will continue into 2018. In aggregate, these forces
make for a positive trading environment continuing to develop for a politically-sensitive pair like GBP/CHF.
The Swiss National Bank isn’t moving on policy anytime soon per President Thomas Jordan, and in general
it doesn’t seem like they will before the European Central Bank does. Reduced Brexit uncertainty, on the
other hand, may be enough to get the Bank of England to address sustained higher inflation and the
erosion of real wages via a rate hike, at least sooner than what is currently being priced-in by rates markets
(November 2018).

GBP/CHF’s technical structure improved significantly in 2017, with the post-Brexit range top of 1.3090 to
1.3200 breaking by the end of October. Even if the last few weeks of the year (leading into when this note
was written) resulted in a pullback to this former resistance area, the prevailing uptrend would suggest
that this should prove to be a firm area of support moving forward. A weekly close below 1.3090 would
suggest that the topside breakout failed. If GBP/CHF is able to maintain price above 1.3200, gains would
be eyed towards the April 2016 low and December 2017 closing high near 1.3450, then the pre-Brexit vote
June 2017 swing low near 1.3520, and finally the May 2016 swing low near 1.3815 (which also coincides
with the measured move from the sideways range from March to September 2017).

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Chart 2: GBP/CHF Daily Chart (April 2016 to December 2017)

Data Source: TradingView. Prepared by Christopher Vecchio

Index

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Michael Boutros, Currency Strategist

Long: Gold after Early 2018 Low; Long: AUD/JPY

Gold Weekly

Data Source: TradingView. Prepared by Michael Boutros

In July, Gold prices rallied through slope resistance extending off the 2016 highs, shifting our focus
higher in the precious metal. The advance reversed off basic channel resistance in early September
before taking out support into the close of the year. Heading into 2018, we’ll be looking for a low in the
first half of the year with a break here at 1240 eyeing confluence support at 1204/12- a region defined
by the 61.8% retracement of the December advance, the 100% extension of the 2017 decline & the
March low-week close and converges on the 2016 trendline resistance. Just lower rests the 2013 swing
lows at 1180.

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Both these regions (1204/12 & 1180) are areas of interest for possible exhaustion / long-entries. Interim
resistance stands at 1279 with a breach / close above 1295 needed to mark resumption of the broader
up-trend targeting 1380/91. Bottom line: the immediate risk heading into next year is with a decline to
ultimately offer more favorable long-opportunities.

AUDJPY Weekly

Data Source: TradingView. Prepared by Michael Boutros

AUD/JPY broke out of a multi-year descending pitchfork formation in November 2016 after rebounding
off a critical long-term support zone we’ve been tracking since last year at 72.05-74.20. The rally turned
just ahead of a key resistance range in September at 90.65-91.23 with the pair looking to close 2017 just
fractionally higher on the year.

Heading into 2018 the focus is on this pullback and while more losses may be on the cards, we’ll be
looking for a response near channel support / the yearly open at 84.25 with our broader bullish
invalidation level now raised to 81.58/97. Look for a breach / close above 87.55-88 to mark resumption
with a rally surpassing key resistance at 90.65-91.23 needed to clear the way for a larger advance
targeting the 2013 trendline.

Index

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Tyler Yell, CMT, Market Analyst

Bullish EUR/AUD
Top Trade: Bullish EUR
Spot: 1.5650
Objectives:
Target 1: 1.70000 (~1.618% Fib Extension of move higher from February)
Target 2: 1.8550 (100% Fib Extension of move higher from 2012-2015)
Invalidation: Weekly close below 1.44

A long position favoring EUR appreciation and a short favoring AUD depreciation is my preferred trade.
After trading lower into the close of 2016, EUR spent much of 2017 rising as the European Central Bank
(ECB) appeared to be on the brink of normalizing their quantitative easing program that would make even
the most dovish central bankers blush. A key reason why the market is anticipating potential
normalization is that the improvement in European economic data, which makes the current amount of
easing unnecessary. While the ECB has deferred rate discussions, for now, the pending normalization will
affect buyers of fixed income instruments (sovereign debt) with a maturity that will happen after
anticipated normalization that is anticipated to begin in 2019 will occur. Such a development next year
could lift EUR considerably against weaker currencies in 2018.

The short leg of the trade is the Australian Dollar, which has been trading lower rather aggressively since
2012 and picked up the pace again in September. The key factors for a further weakening of the Australian
Dollar in 2018 would be lower relative Chinese demand for natural resources provided by Australia and a
falling sovereign yield premiums. The trading year of 2017 closed out rather negative for metals and
havens not named Bitcoin, and a key reason for the selling was on concerns that year on year demand
growth from China would continue to fall. Should this play out as feared, the Australian Deficit would be
expected to widen further. Looking to the disappearing yield premium, Australia has historically had a
global inflow of capital as international investors purchased Australian assets to benefit from the yield
premium Australia enjoyed over other major economies. Looking to the forwards market, the yield
premium has been disappearing over the years, and the US/AU 2-Year spread has recently touched
negative meaning the US is seen as having a yield premium over Australia. If this trend continues, we could
see a further weakening of the Australian Dollar that could lift EUR/AUD to the targets mentioned above.

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Data Source: TradingView. Prepared by Tyler Yell

Index

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David Song, Currency Analyst

Long: AUD/JPY - Keeping Short & Long-Term Themes in Context

AUD/JPY trades near two-year highs as the Bank of Japan (BoJ) continues to pursue its
Quantitative/Qualitative Easing (QQE) with Yield-Curve Control, and a further pickup in carry-trade
interest may keep the exchange rate afloat especially as the Reserve Bank of Australia (RBA) gradually
alters the outlook for monetary policy.

Keep in mind, the RBA may stick to its wait-and-see approach throughout the first-half of 2018 as ‘inflation
remains low, with both CPI and underlying inflation running a little below 2 per cent,’ but recent
comments from Governor Philip Lowe suggest the board will adopt a more hawkish tone over the coming
months as the central bank head warns ‘it is more likely that the next move in interest rates will be up,
rather than down.’ In turn, the broader shift in AUD/JPY behavior may continue to take shape next year
as both price and the Relative Strength Index (RSI) extend the upward trends from 2016.

AUD/JPY Weekly

Data Source: TradingView. Prepared by David Song

AUD/JPY may continue to retrace the decline from back in 2014 as it comes off of trendline support, with
the topside targets on the radar as the former-resistance zone around 84.40 (23.6% expansion) to 85.00
(61.8% retracement) offers support. A break/close above the 87.60 (38.2% retracement) to 87.90 (38.2%
expansion) region raises the risk for a move back towards 88.90 (50% retracement) to 89.70 (50%
expansion), but another series of failed attempts to clear the Fibonacci overlap may generate range-
bound conditions as an ascending triangle formation takes shape.

Index

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James Stanley, Currency Analyst

Long: GBP/NZD As Hurdles to Inflation Diverge for BoE and RBNZ

Last year for our top trades, I looked into a long EUR/AUD setup under the presumption that we’d see the
ECB begin to shift towards tighter policy while the RBA tried to avoid the topic of rate hikes altogether.
We didn’t quite see that shift in the ECB in the way that I was expecting, but that mattered little as bulls
continued to pile on to the long Euro trade as data, growth and inflation continued to print with some
semblance of stability in the bloc. For next year, I want to look at the long side of the British Pound: As
inflation remains above 3% in the U.K., the Bank of England may need to look at tighter policy options
before too long. We did get a rate hike in November – but this was done in such a dovish manner that
the Pound folded over immediately after, where it remained at support for a couple of weeks before bulls
came back into the fray.

I think there is a strong chance that the British Pound rips-higher at some point 2018 as persistent inflation
refuses to tame after that single 25 basis point hike out of the BoE. The Bank of England has been clear in
their dovishness, and if we do see a hawkish flip, this could amount to a very strong currency as markets
begin to price out the prior theme of Brexit weakness as driven by an extremely cautious, dovish and loose
Central Bank. I want to pair the Pound up with the New Zealand Dollar. New Zealand has a new Prime
Minister as of early-August, and the currency’s performance since then has been lackluster, to put it
lightly. The RBNZ is unlikely to be looking at interest rate hikes anytime soon, and if the BoE does get
pushed towards tighter policy options as inflation remains well-elevated above the BoE’s 2% target, a
deviation in GBP/NZD could allow for additional up-side as we move into next year. Stops can be placed
below the group of swing lows that showed up in latter-September/early-October, around 1.8325. This
would allow for an initial target at 2.0100, at which point the stop can be adjusted to break-even. After
2.0100, the prices of 2.0375 and 2.0672 become interesting. And if we’re able to take out 2.0672, which
is the 76.4% Fibonacci retracement of the 2016 major move around Brexit, the door is opened for our
final target at 2.1000.

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Data Source: TradingView. Prepared by James Stanley

Index

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Paul Robinson, Currency Analyst

Short: US Equities - The Resurgence of Volatility, S&P 500 Runs into Trouble

This isn’t so much about making a specific call on the direction of the market as it’s a call for a change in
the trading environment, which if it turns out to be correct will be a welcomed event for traders – We’re
talking about the resurgence of volatility.

We’ve seen remarkable compression in volatility across asset classes in recent years, with the past year
highlighting some of the most extreme readings in the stock market, ever. The 12-month average daily
change (up & down) in the S&P 500 is currently 0.03%. You have to go back to the mid-1960s to find a
lower reading, when the market moved by an average of only 0.026% per day. It was from that trough
volatility began rising over the years to follow as stock market swings became increasingly larger.

S&P 500 w/12-Month Avg. Daily Change (Volatility at multi-decade low)

Data Source: Bloomberg. Prepared by Paul Robinson

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While higher volatility in equities is often associated with market declines, it doesn’t necessarily mean a
new cycle of elevated volatility will also mark the top. But the one-way train we’ve become accustomed
to is likely to find more frequent derailments and larger declines than in recent years. Bottom line: Things
are about to get interesting.

It’s been a difficult environment for short-term index traders, but if we are nearing a generational-type
low in volatility (or at least a sustained uptick) that will change. We will see a lot more ‘back-and-forth’
trading opportunities in a higher-vol regime. This will extend beyond equities, too, as growing stock
market uncertainty raises the tides of volatility across the risk-spectrum. During a higher volatility regime
‘long-volatility’ trading strategies involving breakouts and momentum will come back into vogue, while
‘short-volatility’ strategies such as mean-reversion and range-trading will fall out of favor.

And, yes, the stock market is likely to experience a nasty decline along the way, pushing it into bear-market
territory (-20% or more from the highs). The S&P 500 currently appears to be nearing the end of the 5th
wave in a clean Elliot-wave bull market cycle off the 2009 low. If this proves to be the case, then a sizable
set-back will ensue in the not-too-distant future. It would be reasonable, when looking at past market
declines, to see a fall-out which erases all or most of the 5th wave, or a drop back towards 2100/1800
(~20-30% from current levels). Even just a return to the lower channel-line would be a double-digit
percentage decline from today’s levels. Of course, the big question is: Will a decline begin from around
the upper parallel of the bull-market channel (we’re there now), or will we see a final ‘blow-off’ rally, first,
before turning down? In either case, we appear to be very near the dawn of a rising-volatility environment.

S&P 500: Monthly Chart/5-wave Sequence

Data Source: TradingView. Prepared by Paul Robinson

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Martin Essex, Market Analyst

Short: Crude Oil – A Run Not Sustainable by Supply-Demand

Not so long ago, the OPEC cartel of oil-exporting nations controlled the price of crude oil but now, thanks
to US shale output, there is a supply glut. Due largely to further turmoil in the Middle East, the crude price
climbed steadily from mid-June 2017 but with the US shale companies ready to make up for any supply
shortages, the trend in 2018 could well be downwards.

As 2017 drew to a close, the price of Brent crude, the global benchmark, was strengthened further by
news of a lengthy outage for the Forties pipeline, and that could continue to support the Brent price in
early 2018. However, the price of the US benchmark has no such support and is therefore more likely to
fall. My top trade for 2018 is therefore to sell US crude as barring another major outbreak of Middle East
hostilities the supply/demand equation suggests the contract is now significantly overpriced on a long-
term basis.

Index

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Nicholas Cawley, Market Analyst

Long: USD/CAD - Benefits Expected to Flow More Readily to One Neighbor

We look for the USD to continue to outperform the CAD in 2018 with the Canadian economy
underperforming its neighbour, keeping a lid on monetary tightening. A slowdown in Canadian growth
(1.7% in Q3) and currently below target inflation (1.4% y/y in October) will stay the central bank’s hand
on further interest hikes, while in the US another 3 interest hikes are expected. This interest rate
differential will begin to show further and push the pair back towards the recent weekly high of 1.38000
made at the start of May.

In addition to the diverging economic outlook, a significant number of difference remain between the US
and Canada on key areas of the North American Free Trade Agreement (NAFTA). Canadian Foreign Affairs
Minister Chrystia Freeland recently said that some proposals put forward by the US cannot be agree to
and added that the US position on these proposals remains entrenched. A lengthy trade battle would
impact the Canadian more than its neighbour, further slowing down economic growth.

Data Source: IG. Prepared by Nicholas Cawley

Index

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David Cottle, Market Analyst

Long: AUD/USD Looks Risky Now, But Give The Trade Time

The Australian Dollar is under pressure against its US cousin, largely thanks to the interest-rate differential
story. The US Federal Reserve need only raise rates once more to wipe out the Aussie’s long-held yield
advantage over the greenback. Further hikes will see the advantage move decisively to the US.

In contrast to the series of US rate hikes seen next year, Australian rate-futures markets don’t even fully
price a quarter-point rise in the record low, 1.50% Official Cash Rate until the spring of 2019. However, if
Australian growth and job creation continue at their current, very reasonable pace, and inflation doesn’t
roll over, then the curve could well see some repricing. To be clear, the overall advantage will probably
remain with the US Dollar, but the Aussie could garner more support from monetary policy comparisons
than it presently does. Early-year AUD/USD weakness on Fed hawkishness could be a buying opportunity,
especially if the equity market correction many now fear stays the US central bank’s hand.

Index

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