Introducing DiNapoli on the dollar/yen

Since April the value of the US dollar (USD) has steadily lost value against the Yen (JPY).
Across the Asia Pacific, the USD/JPY cross rate remains a key gauge or barometer of a two-
way play of global economic fundamentals and risk aversion.

The barometer has experienced many high and low points in the last 26 months. In June
2007 the USD/JPY traded a five-year high of 124.16 to the USD. As far as the fundamentals
were concerned, that five-year high was more about a weaker Yen, rather than a stronger US
Dollar. Over these 26 months, through better and worse, USD/JPY has declined as the Yen
has appreciated 25 percent against the US Dollar.

Chart 1 DiNapoli MACD Predictor

This 25 percent decline in USD/JPY is illustrated in Chart 1, with the initial change of trend
signal appearing soon after the USD/JPY five-year high in June 2007. The red line over the
price bars illustrate the MACD predictor (referred to as DiNapoliMP or “DiNapoli MACD
predictor”). The regular DiNapoli MACD is shown at the bottom the chart.

The mechanics of the predictor are relatively simple. As shown in the chart when the price of
USD/JPY fell below the red line on the price axis (MACD predictor), the corresponding trend
as shown on the regular DiNapoli MACD is bearish (the MACD line is below the blue MACD
signal line). The advantage of the MACD predictor is it gives a specific point reading on the
price axis when the trend on the regular MACD is turning up or down ahead of market action.
That price point for mid 2007 was a close below 118.60 for a confirmed bearish trend.

Fast forward and the USD/JPY is now trading circa 92.00. There have been some key turning
points over the past 26 months, no more so than the vacuum on global risk appetite produced
by the events of the third quarter of 2008.
As the risk of systemic failures grew in the third quarter of 2008, investors shed risk in
earnest and moved to liquidate a five year trend of carry trades. The carry trade is the well-
known strategy that involves global investors borrowing Yen and investing it in another
domicile, typically directed to stocks, commodities or emerging markets. The estimated size
of the carry trades was in the vicinity of ¥1.2 trillion in 2008.

For five years carry trades had been facilitated with an abundance of Yen liquidity and low
interest rates in Japan. The subsequent buying back of Yen saw USD/JPY fall 21% from
August 2008 lows to a low of 87.11 in December 2008 (Chart 2). Momentum into the 87.11
low during December 2008 provided the next DiNapoli signal.

Chart 2 illustrates the DiNapoli Oscillator Predictor (OP) that provides overbought and
oversold levels. Note the low formed during October 2008 near the OP oversold level (Price
low = 90.88 Oversold level = 91.18). The price low illustrated in Dec 2008 was well oversold
with the low at 87.11 and lower OS band value at 88.59. This presents a long term DiNapoli
bullish opportunity, which can better defined by narrowing the lens to a daily chart.

Chart 2 DiNapoli Oscillator Predictor

Chart 3 DiNapoli Trend Trade on Fading Stochastics

Chart 3 presents the bullish opportunity in December 2008 presented in Chart 2 with a daily
timeframe with an MACD predictor line and a stochastic indicator at the bottom of the chart.
The refined buy signal according to DiNapoli technique is not given at the crossover of price
and the MACD predictor line, rather seven sessions later on 30 December 2008.

The refined entry (in purple) occurs on the fading of the DiNapoli preferred stochastic, that is
the %K red line moves from above to below the %D blue line. Note the stochastic actually
turned down in the midst of a strong bullish trend. The buy signal is generated on the
probability the weaker Stochastic will correct itself in line with a strong trend in the DiNapoli
MACD setting.

Chart 4 presents the same time period as Chart 3 for the USD/JPY and incorporates the
DiNapoli Oscillator Predictor band to produce a Logical Profit Objective (LPO). The target
price for the long generated on 30 December 2008 is represented by the upper predictor
band (in blue) at 93.14 on 5 January 2009.

Chart 4 DiNapoli Logical Profit Objective (LPO).

Chart 5 presents another DiNapoli trade signal that soon followed the conclusion of the long
view on 5 January 2009.

Adopting a weekly perspective, a longer position play was signaled in February 2009. Chart 5
illustrates a longer term weekly pattern signal using the DiNapoli displaced moving average
(DMA), illustrated by a blue line. Parameters are referenced from the book Trading with
DiNapoli Levels.

Because of the specific format of the crossovers into the week of 6 February 2009, a reversal
“Double Repo” pattern appeared, completed as the initial signal bar closed above the DMA at
the end of the week. The next step for a DiNapoli trader would be to again alternate the
timeframe to a daily chart, to evaluate a trade entry.

Chart 5 DiNapoli DMA & the Double Repo

In breaking down the weekly entry signal of Chart 5, the DiNapoli oscillator predictor is
applied in Chart 6 on a daily timeframe. The proximity of the price of USD/JPY to the
overbought band illustrates that an attempt to enter at the high of the weekly signal would be
a mistake given resistance and the overbought level near 92.16. To further fine tune the entry
price, a DiNapoli Retracement tool is applied to produce a “K” confluence zone (purple range)
for entry consideration.

Chart 6 DiNapoli Retracement and the “K” confluence zone

Chart 7 presents a weekly chart, the relevant timeframe to assess a longer term view of
logical profit objectives based on DiNapoli levels. These levels incorporate Fibonacci Levels,
rather than DiNapoli Oscillator Predictor band. As initially illustrated in Chart 1, the higher
price objective near 101.66 represents a “K” confluence level of resistance. This resistance
level provided a trade target in April 2009.

Chart 7 Logical Profit Objective (LPO) using DiNapoli levels

Since the 101.66 resistance served in April 2009, the USD/JPY has declined. In fact, the
subsequent months saw dynamic pressure from resistance at that “K” level of confluence in
the USD/JPY illustrated in Chart 1. DiNapoli levels had forecasted strong resistance at “K”
on the monthly chart several months earlier producing a confluence level from the low of
12/2008 well in advance. Following the election of the Democratic Party of Japan (DPJ), the
USD/JPY traded down to its July 2009 low near 92.00.

Despite the USD encountering post election support against the Yen near 92.00, the
fundamental future for the Yen certainly looks stronger. It is certainly the subject of debate if
five years of carry trades were liquidated within the space five months. However, caveat
emptor, the carry trade could return to the radar with the expectation that the US Federal
Reserve starts raising interest rates in March 2010, sustainable time for industrial production
and employment to bounce.

Moreover the catalysts for the two major waves of weakness of the Yen over the past 18
months cannot be entirely put to rest be it, energy price risk, risk aversion and carry trade,
cyclical downturn, trade and corporate outlooks. The first wave spanned 6 months from
March to August 2008 and the second wave spanned January to April 2009. Both these
declines saw Yen shed 15 percent to the US dollar.

Further, Japan’s state of economic health going into 2008 and the inability to rebalance or
restructure its economy like South Korea and China has seen underperformance in the
recovery of the Nikkei 225. The decline in the Yen was only salvaged by a return of global
risk appetite in March 2009.

The future trajectory of the USD/JPY will be influenced by the world at large and the
rebalancing acts that can be managed by the DPJ. While the current trend suggests further
Yen strength, the Bank of Japan is also to be tested with global central banks breaking from
their unilateral policy framework to accommodate divergent economic outlooks.

An intraday example could be seen during the recent non-farm payroll report at 12:30a GMT
on 09/04/09. The USD/JPY had hit a high at the 61.8 retracement node near "K" confluence
just after US unemployment data showed some optimism with non-farm payrolls (NFP) falling
in August by 216,000 being less than the forecast of 230,000 illustrating a slowing down of
job losses in the US. As derived from the "F" focal point low on 9/3/09 4:00 GMT bar, "K"
was created in advance via reactions 1 & 2 as shown by the 4 hr chart where resistance is at
as of this posting.

From a trading perspective, the application of technical analysis using DiNapoli Levels allows
one to adequately manage risk across markets, especially in Forex. The beauty of this
approach is that there is little guesswork by relating a practical application of Fibonacci
techniques to forecast opportunities in advance entering on a retracement and exiting at
predetermined profit objectives.
Those interested in trading should consider E-Micro FX products at the CME (Chicago
Mercantile Exchange) allowing complete market transparency with over $100 billion in daily
liquidity. Over-the-counter or “spot” dealers should be scrutinized carefully as off-exchange
retail foreign currency products/services are not conducted on an exchange unlike futures
accounts.

Further education and training of DiNapoli levels can be found at Hawaii Forex
(www.hawaiiforex.com).

Article written by Derek Ching

Derek Ching is an active trader and maintains a Series 3 & 30 license as a registered CTA
(commodity trade advisor) with the National Futures Association.

As managing director for Hawaii Forex, he provides technical training and strategies for
professional traders on DiNapoli Levels, a sophisticated form of advanced Fibonacci analysis.
More information can be found at www.hawaiiforex.com or email: Derek@hawaiiforex.com