Indeed in last week’s bond markets, Portuguese bonds reached their highest level with the ECB stepping in to the bond auction as a result, raising fresh concerns over Portugal’s ability for survive without being forced to request a bail out package. Spain of course continues to toil with a similar problem, and should either of these fail, then expect to see the euro sell off sharply as a result, particularly against the US dollar has shown some bullish sentiment in the last few days.

From a technical perspective of course, in the last three weeks on the euro dollar chart, we have seen two shooting star candles along with a doji candle, as the recent bullish trend appears to have finally run out of steam, despite continued political support from both France and the ECB. Should this week;s events unfold as expected, then the euro dollar could test the 1,3325 region in the early part of the week, with a potential move back to 1.3276 later in the week.

Forex markets have reacted slightly differently to the news, and indeed it is interesting to note that the US dollar has continued to sell off once again, a worrying trend, since the negative correlation with risk on/risk off appetite appears to have broken down temporarily. From a technical perspective, the USD index now appears to be heading lower, down towards the 78.09 region, and should this be breached, then we may see the index re-test the lows of mid October at 76.685 in due course. The 81.45 level is now a well developed area of potential resistance and with the index now having broken below all four moving averages once again, the outlook remains firmly bearish for the US dollar in the short to medium term. As such we can expect to see the majors benefit from further dollar weakness. It is also interesting to note on the same theme, that gold has also sold off again, another of the safe haven asset classes, so one wonders where investors are moving to this morning, and perhaps the Swiss Franc will benefit once more?

Elsewhere the euro dollar continues to remains bullish pushing back above the 1.3500 region once again, as it continues to probe this area and whilst we expect a pullback by late February with a possible move back to 1.25 – 1.27 in due course, in the short term we can expect to see further bullish momentum, and any break and hold above the 1.36 region could see a move towards the 1.3800 area in the medium term, before the markets take a reality check and we see bearish sentiment for the euro return. Indeed in early trading this morning, the euro has continued higher, despite growing unrest amongst EU finance ministers at the lack of progress in agreeing any timescales for the Euro Bond project, with Germany once again expressing it’s concerns. Longer term we can expect to see at least one member state leave the euro, and my guess is that Greece will be the first, followed by several others over the next two to three years.

Elsewhere in the forex markets today, Cable appears to be running out of steam as it struggles to hold above the psychological 1.600o region, to currently trade at 1.5994. Yesterday’s price action ended with a narrow spread up candle, but with a deep wick to the upper body, and this is being repeated in today’s forex trading session once again, as the pair attempt to breach this level, which is also capped with some deep resistance immediately ahead. Having had 9 straight days of gains, a technical pullback is almost certain, with further bullish momentum likely, should the US dollar continue it’s downward decline as expected.

Finally the euro pound gained strongly today, breaking above the 0.8400 price level to currently trade at 0.8411, as the pair attempt to break through the bunched longer term moving averages in this area. A break and hold above the 40 and 200 day averages will then open the way for a further advance later in the week, with a move towards the 0.8500 once again where further deep resistance now awaits on the daily chart.

The US dollar index closed on Friday at 79.06, with a small doji candle, bouncing off the low of the day at 78.806, and as such finding support at this price level once more, a level which has triggered a recovery for the index on two occasions over the last few weeks. The index now appears to be developing a platform of support in this price region, and despite the sharp sell off for the dollar last week, the doji candle of Friday, in tandem with the potential support level, is signalling a possible reversal higher once more for the dollar. Indeed in early trading this morning, the index is currently trading higher at 79.504, having opened the forex trading session gapped up, but for any momentum to be sustained, we need to see a break and hold back above all three short term moving averages once more, which are currently tightly bunched in the 80.000 region.

A clearance at this level, coupled with a move through the potential short term resistance between 80 and 81.50, would then open the way for a further attempt to breach the 200 day moving average, now sitting in the 81.667 region, where previous rallies have been capped by this key indicator. Indeed for any longer term rally to develop for the US dollar, we need to see a break and hold above this important technical area, and if cleared, then we can expect to see a sustained and longer term move higher for the dollar index, with consequent weakness in major currencies as a result.

Whilst these were the headlines that dominated global forex markets for much of the week, in the Far East, and almost unnoticed, the People’s Bank of China, raised the Reserve Requirement Ratio or RRR once again by 50 bps, as it attempts to manage both liquidity and the rate of bank lending, which is driving inflation higher as a result. As such this was the fourth rate rise in a matter of weeks, and when it comes into effect next week, will take the rate for the major banks to a record 19%. Whilst Europe frets and worries inflation of 2.2%, and the UK worries at levels around 3.3%, China by contrast has inflation rates of 5% and rising, as it struggles to contain the housing bubble and consumer demand, along with higher prices. Last month of course the Bank raised it’s interest rates by 25 basis points, and now looks set to move towards using the RRR as it’s primary weapon in combating inflation, with several further rises expected later this year.

China of course is the world’s second largest economy, and as such provides a bell weather to traders and investors as to “risk on”, and “risk off” appetite, and last week’s news resulted in a sharp sell off in the dollar, along with the Aussie dollar and New Zealand dollar, with commodities also falling sharply on the news of further measures to control the economy. Meanwhile in the currency markets, China has allowed the Yuan to strengthen slightly in the last few weeks, but well short of US expectations and Mr Geithner in particular, who still consider the Chinese Yuan substantially and artificially undervalued. However, this issue aside, provided that inflation in China is kept in check and growth continues at the recent rate of 9.6%, then the wobble in ‘risk on’ sentiment, which saw the markets slide last week and equities struggle, should return, although as always, Europe will continue to dominate the week once more, as the EU Finance Ministers meeting gets underway on Monday with the US markets closed for Martin Luther King day.

In his statement Trichet stated that inflationary pressures remained “short term”, and that the headline rate of inflation was expected to fall later in the year, but as a result “very close monitoring is warranted”. It was this comment that sent the euro spiralling higher, and climbing over 300 pips on the day against the US dollar, perversely ignoring the fact that the bond problems of peripheral member states remain the key issue for the time being. It was interesting to note that equity markets largely ignored the news, with both the Dow Jones and the FTSE 100 closing lower yesterday, clearly sending a strong signal that this was an over reaction to the news, and one that would normally have seen a strong euro pull equity markets higher, which was not the case. Indeed in a forthcoming article to be published this weekend, Paul Krugman, the Nobel winning economist writes that the strict Eurozone rules now being pursued by Jean Claude Trichet and others in Brussels, favours the strong nations such as France and Germany, with the smaller member states left to their own devices, which could see a mass exodus from the euro, coupled with widespread defaults amongst these as a result.

Inflation of course is nothing new, and in the last few months we have seen the problem beginning to surface in the Far East particularly, with South Korea, Thailand and China being forced to raise rates in order to control rising prices, particularly in food and commodities, whilst Western countries such as the US and Europe exhibit slower growth, with yesterday’s comments triggered by a jump in last month’s headline rate to 2.2%. This was the first time that the inflation figure has risen above the bank’s target of 2%, the same as for the UK, which in turn has seen inflation rise to 3.3% with some analysts now forecasting a rise to 4% and beyond. Indeed with oil now breaking higher and moving towards the $100 per barrel price level, this is likely to add further pressure to the UK government.

So what are we to make of yesterday’s strong move for the euro – is this a longer term trend, or simply a short term market reaction and likely to reverse just as quickly? My own view is simply this, that yesterday’s move was a stop hunting exercise by the forex market makers, who seized the opportunity to squeeze euro bears out of their positions in a rapid rise, triggering stops, a feature of this mornings price action once again. With deep stops set above the recent highs of the last few weeks, this is a classic move to shake traders out of their short positions, and as such we need to stay calm, hold our nerve, and wait for the inevitable reaction lower, which looks to have started already in early trading, with the EUR/USD pulling back from the high of 1.3457, and now trading lower at 1.3365.

The conclusion is simple – yesterday’s price action was market manipulation by the forex market makers to take out layered stops in the 1.3450 region and above, before taking the pair lower once again, clearly the case since equities failed to follow the euro higher. So expect to see the euro weaken once again over the next few days, particularly against the US dollar, and move back to retest the 200 day moving average in due course as the bearish momentum of the last few weeks is reinstated.

Whilst the BOJ has publicly stated that it does not intervene to ‘manage’ its currency, privately this is not the case, and in the final quarter of 2010, we saw the BOJ step in on the 15th September as the USD/JPY hit a low of 82.87 intraday, sending the pair surging higher to close the session at 85.77. All this cost and effort was fruitless as the markets simply absorbed the move and returned to their previous trend, moving back to this level and lower by the end of the year. At present the pair are consolidating between 81 and 84, and any technical breach of the upper price level, could provide a platform of support for a rally higher, although at present the recent short term rise appears to have run into resistance at the 40 day moving average on the daily chart as we trade at 82.93 at the time of writing.

However, this problem is not new, and indeed has been ongoing since 1975, when a US dollar would have bought almost 300 yen, which compares to today’s 80 yen, and indeed this is one of the prime reasons that the Japanese yen has continued to remain a currency with safe haven status, in much the same way as for the dollar, which makes trading this pair difficult, as it is not simply a question of dollar weakness converting to yen strength and visa versa. In order to try to combat this, the BOJ has kept interest rates artificially low following the bubble which burst in the early 1990′s, a scenario that has many parallels with today’s global problems around the world. Even so, the yen continues to strengthen, and there is little that the BOJ can now, do except stand aside, watch, hope and pray that at some point the markets will reverse this long trend, and remove the pressure from an increasingly strong currency.

The most interesting reaction was in the EUR/USD which promptly fell sharply on the news, breaking back below the 1.3000 level once again, and reversing the overnight rally and that of the last few days, which has largely been fuelled by warm words from Japan and China, as the two continue to support the euro in favour of the US dollar. From a technical perspective the longer term outlook for the euro dollar remains firmly bearish, and should today’s action hold below the 1.3000 region, then the 200 day moving average will continue to play a pivotal role, exerting  some heavy pressure to the downside. Immediately above of course we now have the deep price congestion which is acting as an area of deep resistance and as such adding a further barrier to any short term recovery for the euro. In the longer term therefore we can expect to see a test of the 1.2625 region in due course, and if this is breached then a deeper move could send the pair towards 1.2500 and beyond.

With very little news again today, the US dollar traded in a tight range, ending the US session as a small doji candle on the daily chart and trading at the 80.89 level once again. From a technical perspective the USD index remains firmly bullish, and provided we see a break and hold above the 81.44 high of late November, coupled with a breach of the 200 day moving average which now sits overhead at 81.70, then this will duly confirm the market sentiment for the dollar, and as such we can expect to see the index climb to retest resistance in the 82 to 83.50 region.

One of the interesting pairs to watch this week is the USD/CHF which has fallen from a high of 1.1731 last year, to it’s current level of 0.9736, having tested the 0.9319 region last week, as investors rushed to buy the Swiss Franc as a safe haven paper asset. However, this sentiment now appears to be changing, and from a technical perspective we saw a bullish engulfing signal on the weekly chart, suggesting that the pair are now reversing, and beginning the long slow climb back to parity and beyond. As such, this represents an excellent longer term trade, with a break above parity as an initial target. Once clear of this area, then expect to see the pair push higher to test resistance in the 1.01 to 1.02 area in due course.

Elsewhere, the Chinese trade balance came in at 13.1B against a forecast of 20.9B, as export growth fell whilst imports expanded faster than expected, which should ease some of the ongoing trade tensions between the US and China. With no news today in the US markets, the focus was on Canada, with Building permits followed by the Bank of Canada outlook survey, with the former coming in worse than expected at -11.2% against a forecast of 0.8%. This was followed shortly afterwards by the BOC outlook which painted a rosier picture for the economy, and as such the USD/CAD lower much as expected, and indeed this is a feature that is likely to continue over the next few weeks and months as the prospect of a rate rise in Canada increases with the US dollar sold in favour of the Loonie, as we break below parity and beyond. The dollar index reflected the global mood in forex markets, trading between 80.81 and 81.31, in a day of inaction which was reflected across both equities and commodities.