EUR/USD – Trading the Bearish Continuation Scenario

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EUR/USD - Trading the Bearish Continuation Scenario

After the FOMC announced that it will completely end QE, USD gained across the board, and the EUR/USD fell sharply. In the 4H chart we can see that the dip broke below 2 flag patterns, signaling bearish continuation. The hold below the moving averages in the 4H chart also represent a bearish continuation scenario.

EUR/USD 4H Chart 10/30
eurusd 4h chart 10/30

(click to enlarge)

Another way to look at it is that EUR/USD completed a head and shoulders pattern. Traditionally we are taught H&S patterns are at the end of rallies, but they can be spotted in bearish continuation situations.

The head in this case represents a failed attempt to build a bullish trend – higher highs and higher lows.

Now, inflation data from the eurozone and GDP data from the US will be be today’s fundamental factors. Let’s say price rebounds. If the EUR/USD has indeed started a bearish continuation it should find resistance at or below 1.27. Otherwise, we should might consider the case of an extended consolidation.

If price holds below 1.27, and breaks below 1.25, the EUR/USD would open up another leg of its downtrend since May, when it marked the high on the year just under 1.40.

The weekly chart shows that the next support levels will be around 1.2250, down to the 1.2042, 2012-low. With the RSI in oversold conditions, we should expect buyers in this area to form another period of consolidation like we had in October.

EUR/USD Weekly Chart 10/30
eurusd weekly chart

(click to enlarge)

Reward to Risk:
For a trader who believes EUR/USD has initiated a bearish continuation, a bounce today could be an invitation to fade the rally. Let’s say price comes up near 1.27. Let’s examine the reward to risk ratio of a sell here.

First of all, a stop can be placed above 1.2770, the right “shoulder”. Let’s say 1.2785. Then ,we have a 85-pips risk. The first target would be 1.25, the October and year’s low. That offers a potential reward of 200 pips, giving us a R:R of 200:85 or 2.35:1.

First of all, this is the conservative target because the EUR/USD has further downside risk since the prevailing downtrend is intact. On the other hand, a realistic enter planned for 1.27 will probably be lower, giving us slightly more risk and slightly less reward.

With those two considerations, the R:R is still favorable for a conservative target.

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Fan Yang has been a professional forex trader and analyst since 2007. He specializes in technical analysis and has a Chartered Market Technician designation since 2011. He was the chief technical strategist at CMSFX He was also the founder and chief currency strategist at FXTimes Over the years, Fan has not only been a trader and analyst but also an educator. As a proponent of both technical and fundamental analysis in trading, Fan advocates simplicity and discipline as key factors in making trading decisions when faced with so many "clues" and "signals". Currently Fan Yang is the chief currency analyst and webinar instructor at forexminute.com.