Morning Brief – Blink and you’d have missed it

Blink and you’d have missed it

I’m sure many of you had a flurry of alerts yesterday just before 2pm that for the first time in two decades a Euro was worth less than one US Dollar. However, it’s a good job those automatic headlines were pushed out because unless you’d been staring at your tick by tick EURUSD screen, you may well have missed it. On Tuesday traders long and short EURUSD respectively had an immense battle and ultimately defended the 1-1 level albeit by only one or two 10,000ths of a cent. A break of parity as we wrote recently could well have triggered a huge bout of volatility in the market and caused valuations to change in the pair wildly.

The theory of why if EURUSD breaks below parity it could be in for a hefty upward or further downward correction lies in the order books. Just below 1-1 there will be a significant interest in (perhaps counterintuitively) selling EUR. The reason is that if such a momentous barrier is passed the further losses could be realised very quickly and rise exponentially. So why didn’t it happen? Well, firstly, at the moment there remains sufficient demand for the Euro to keep the pair relatively stable compared to what could be in store in a weaker Euro-sentiment environment. But more importantly, those stop loss orders that hold the potential to do the real damage to EURUSD are clearly at a lower level than might have been expected. It would be ludicrous to think that they do not exist at all, however, it is also possible that the open market interest is smaller than expected down at these depths.

So why, with such an important level such as 1.000, would orders be left at a different level to that which markets are monitoring? In the case of a stop loss, traders will want to avoid a scenario where their order is filled based on a false break of a technical level. This avoids, in the case of a stop-loss, an order being triggered at the bottom of a falling market and adding to the very firepower required to undermine your own position. Therefore, the real price defining trades within the EURUSD order book may currently lie around 0.9990 or a similar level. The same is true of limit orders but to a lesser extent and shy orders may be used to guarantee a fill around your desired level whilst not chancing the few extra pips for the sake of losing the fill altogether.

Without a centralised exchange and order book, it’s impossible to know with full visibility where these orders lie exactly. We can gain some insight from the futures and options market where big ‘pin risks’ lie but the ‘over the counter’ nature of FX and the interbank market itself undermines full clarity. Despite this, it seems yesterday’s mini break of 1-1 in EURUSD is very unlikely to be the end of the story.

Discussion and Analysis by Charles Porter

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