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Markets Brace for More Volatility on ECB TLTRO, Scotland Referendum

Talking Points:

  • Franc May Decline if SNB Threatens to Expand Anti-Deflationary Measures
  • Euro Could Bounce as Strong TLTRO Uptake Cuts Stimulus Expansion Bets
  • Pound Volatility in the Cards as Scotland Independence Referendum Looms

The FOMC monetary policy announcement fueled sharp volatility across currency markets but this marked just the beginning of a marathon of tectonic event risk facing investors. The least potent and most localized of the bunch is a rate decision from the Swiss National Bank.

While SNB Chairman Thomas Jordan and company seem unlikely to adjust the policy mix for the time being, they are surely watching the downward drift in EURCHF toward their established floor at 1.20 as ECB stimulus expands. If that spurs officials to threaten further anti-deflationary measures in the policy statement or prompts a large downward revision in the inflation outlook, the Franc may come under increased pressure.

Shifting focus to the European Central Bank itself, traders will be on the lookout for the results of the first TLTRO operation. As we discussed in our weekly Euro outlook, key variable in play will be the size of the liquidity provision taken up by banks tapping the facility. A survey of economists polled by Bloomberg puts the median forecast at €150 billion for today’s outing. In a somewhat counter-intuitive turn of events, a larger-than-expected capital allocation seems likely to offer support to the Euro.

The ECB has seemingly deployed every stimulus tool at its disposal short of “classic” QE, an option strongly opposed by the likes of Germany. Indeed, the TLTRO effort will be aided by a record-low baseline lending rate, a negative deposit rate, as well as purchases of asset-backed securities and covered bonds.

That means strong TLTRO uptake might be seen as lifting pressure to ease further and giving policymakers room to shift to wait-and-see mode. This may in turn fuel speculation that the single currency has fallen substantially enough to price in the degree of accommodation already on the table, prompting a round of profit-taking on highly elevated speculative short positions and sending the common unit upward.

Finally, the spotlight will shift to the Scottish Independence Referendum. Opinion polls ahead of the ballot essentially point to a 50/50 chance that Scotland will secede from the UK. This implies that – whatever the final result – a surge of volatility is likely to accompany the outcome as those on in the wrong are forced to readjust positions.

Scottish secession would be an unprecedented development with broadly unknown implications. That means a victory for the “yes” camp is likely to sink the British Pound as capital flees the uncertainty of GBP-denominated assets. An outcome close enough to leave room for dispute or the appearance of irregularities that threaten to discredit the tally may yield the same response. Alternatively, a clear-cut victory for the “no” campaign will probably boost the UK unit. Final results are due between 5:30-6:30 GMT on Friday.

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— Written by Ilya Spivak, Currency Strategist for DailyFX.com

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British Pound: Scottish Vote is Close and FX Traders are Nervous

Talking Points:

  • Dollar Rallies to 14 Month Highs, S&P 500 Steady After FOMC
  • British Pound: Scottish Vote is Close and FX Traders are Nervous
  • Euro’s Medium-Term Outlook Bearish Regardless of TLTRO Uptake

Dollar Rallies to 14 Month Highs, S&P 500 Steady After FOMC

The FOMC delivered a more hawkish view of the future…but it did so begrudgingly. Nevertheless, the US Dollar took the cue and advanced against all of its major counterparts this past session. From the Dow Jones FXCM Dollar Index (ticker = USDollar), bullish sentiment translated into a 14-month high. Furthermore, when we look across the majors; the progression of the central bank’s commitment to the slow but steady return to a hawkish regime was plain to see. On one extreme, EURUSD – which sees the ECB actively engaged in a dovish policy to expand its balance sheet – dropped 0.7 percent on the day. On the other, even carry currencies with materially higher interest rates like the New Zealand (down 1.3 percent) and Australian dollars (off 1.5 percent) would also lose ground to the US unit.

Where did this bullish / hawkish sentiment originate? The headline – and fully expected – move by the market was the $10 billion ‘Taper’ to the central bank’s QE3 program. Fed Chairwoman Yellen later remarked that the group expects to close out the stimulus program when they next meet on October 29. This particular event’s celebrity was brought on by the unique elements of the quarterly meeting: updated forecasts and the Chair’s press conference. The economic projections – growth, employment and inflation – were little changed. Yet, the central bank didn’t leave traders without cannon fodder. Their interest rate forecasts were materially more hawkish. Of the 17 FOMC members, 14 now expected the first hike in 2015 (in June it was 12). More remarkable, the Fed upgraded its outlook for the rate at the end of 2015 to 1.375 percent (previously 1.13) and the end of 2016 to 2.875 percent (previously 2.50). Substantial.

So, if the Fed is moving steadfastly towards a moderation of its accommodation, why didn’t capital markets respond? With a low rate and high stimulus environment; assumed risk by individuals (volatility) collapsed, investors ventured into riskier assets and used higher leverage. An uptick in the risk profile could unnerve a market that has been extremely complacent. Yet, it didn’t. In part, this is due to Ms. Yellen’s evading a clear view of the Fed’s path and perceptions. That maysave the S&P 500 now, but it only further raises the burden for the inevitable shift.

British Pound: Scottish Vote is Close and FX Traders are Nervous

Market participants are clearly concerned about what a possible Scottish secession from the United Kingdom could mean for the British Pound. Looking at short-term (one-week) implied volatility, the expectations for a shock to exchange rates is at the highest level in four years – currently 15 percent, where it was below 3 before the fateful YouGov poll released on September 7. Meanwhile, risk-reversals (used to measure hedging costs for a big market move) of the same duration were the most bearish on record – substantially more bearish than the height of the 2008 crisis. The risk in this event is the lack of definable consequence. Scotland voting ‘Yes’ can significantly disrupt the UK’s economic stability. Though the opinion polls are close, the market still seems leaning towards ‘No’. The polls close at 21:00 GMT.

Euro’s Medium-Term Outlook Bearish Regardless of TLTRO Uptake

The ECB is preparing to inject its first large scale stimulus into the market since the Euro-area regained its financial footing two years ago. On the calendar since it was announced back in June, the Targeted-LTRO is similar to the programs of 2011 and 2012 which provided European banks much needed liquidity during the height of the crisis. Conditions are very different now and there are contingencies on these loans, so the uptake is likely to be significantly smaller. As such, a small or large demand for these loans is unlikely to mark a major change in the ECB’s efforts. President Draghi said they plan to increase their balance sheet to early 2012 levels. If it isn’t via TLTRO, they will find other means.

Swiss Franc Eyes 1.2000 EURCHF Fight as SNB Meets Amid ECB Push

In the excitement of the ECB liquidity action and the Scotland Independence vote, traders should not lose sight of other key event risk. Perhaps one of the most important – yet underappreciated – events today is the SNB rate decision. The ECB has committed to expanding its balance sheet and thereby driving its currency lower. That creates a conflict for the Swiss as their job is to keep EURCHF north of 1.2000

New Zealand Dollar: Economy Hits Fastest Stride of Growth in 10-Years

New Zealand reported impressive growth figures this morning. The 2Q GDP figures offered a 0.7 percent quarterly figure and a 3.9 percent annual clip that was the headiest in a decade. And yet, interest rate expectations behind the Kiwi showed little benefit from the upgrade. The 12-month rate forecast through swaps is still scrapping by at 35 basis points and sovereign yields are little moved around 4.26 percent.

Emerging Market Investors Confused by Fed’s Policy Direction

The Fed’s hawkish rate forecast and ambiguous communications may have done the S&P 500 a favor by blending confusion with complacency, but it does little benefit to Emerging Markets. Leaders of this segment have decried the US central bank’s influence over their financial systems through excessive stimulus and its eventual removal. One of the first places investors are likely to unwind risk is Emerging Markets.

Gold Yields to Dollar’s Strength and Fed’s Rate Forecast, At 8-Month Low

With the dollar on the rise as the specter of rate hikes draws nearer, one of the market’s favored anti-currencies would feel the pain. Gold putting some pace on its bearish intentions with a drop to lows not seen since January. Should more speculative-friendly financial channels price in impending rate hikes – and not just the dollar – the precious metal will feel real pressure below $1,200.

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ECONOMIC DATA

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INTRA-DAY PROBABILITY BANDS 18:00 GMT

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— Written by: John Kicklighter, Chief Strategist for DailyFX.com

To contact John, email jkicklighter@dailyfx.com. Follow me on twitter at http://www.twitter.com/JohnKicklighter

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Scotland Vote Promises GBP Volatility – How Big and Which Way?

- British Pound recovers from most oversold since financial crisis ahead of Scotland vote

- FX traders nonetheless remain positioned for the worst – how bad can it get?

- We update probabilities from a quantitative and qualitative basis below

The British Pound has bounced considerably off of recent lows just ahead of the Scottish referendum. But what do derivatives tell us on the odds of the Sterling’s next moves?

Last week we noted that the GBP hit its most oversold territory since the height of the financial crisis as we first priced the risks to the UK currency. In summary, we noted that volatility prices predicted the sharpest GBP/USD swings in over two years, while traders aggressively bet on/hedged against sharp declines.

Since last week the UK currency has actually closed the gap it saw at the open of last week’s trading, and it seems that many FX traders now expect the Union to remain intact through the vote. Yet derivatives tell a different story, and indeed it’s important to note that 1-week volatility prices remain near their highest in over 3 years.

British Pound Volatility Prices Remain Near their Highest since ‘Flash Crash’, UK General Elections

Scotland Vote Promises GBP Volatility - How Big and Which Way?

Data source: Bloomberg, Prepared by David Rodriguez

These FX derivatives prices imply that the Sterling/Dollar exchange rate will trade within a plus or minus 3.3 percent range in the coming seven days. This translates into a 330-point gain or loss and roughly $1.5950-1.6600 range based on current spot price. Yet the critical question remains: which direction is more likely?

We stick to derivatives pricing to calculate which way traders are leaning. We can measure the difference in prices paid for aggressive bets on/hedges against GBPUSD strength and weakness. In FX derivatives terms this is known as the “Risk Reversal”. The chart below shows that options traders are their most aggressively positioned for British Pound weakness since the currency traded to lasting lows in May, 2010.

Traders Remain Aggressively Positioned/Hedged Against British Pound Tumbles

Scotland Vote Promises GBP Volatility - How Big and Which Way?

Data source: Bloomberg, Prepared by David Rodriguez

In fact the premium on bearish trades is at its highest since the GBPUSD traded to significant lows in 2010. This occurred as a UK General Election produced the first hung parliament in decades. The almost-simultaneous ‘Flash Crash’ reminded many of the extreme GBP volatility seen just two years before, and derivatives markets seemed in a virtual panic.

With hindsight as 20/20 these fears were obviously overblown, and indeed news always seems the worst at market bottoms. But what are the odds that Scotland will actually exit the United Kingdom?

Will Scotland Vote “Yes” for Independence?

The British Pound tumbled on news that a single opinion poll suggested most would vote “Yes” for Scottish secession from the United Kingdom. Yet since last week we have had no such “Yes” result, and in fact most polls suggest that Scotland will vote to stay in the Union. What are the odds?

According to one prominent FX clearer, recent polls imply a 24 percent probability that Scotland will vote for independence. This prediction is roughly in line with the odds from UK bookmakers, and indeed in last week’s preview we noted similarly low odds of a victory for the “Yes” vote based on key historical studies. Yet derivatives markets remain extremely bearish the British Pound. Why the fuss?

Will the British Pound Crash if Voters Say “Yes”?

It’s unlikely that Scotland votes for independence, but it’s also clear that such a surprise could produce a significant break lower in the GBPUSD. Volatility prices suggest that the Sterling could lose substantially on such an outcome.

Derivatives predict a 68 percent chance that the GBP will remain above $1.5950 in the coming week and a 95 percent chance that it will finish above $1.5600. In the unlikely case which Scotland votes in favor of independence, we could see the Sterling swiftly trade towards fresh 12-month lows.

British Pound Sees Potential 700-pip Range Leading into Scottish Referendum

Scotland Vote Promises GBP Volatility - How Big and Which Way?

Will the British Pound Post a Lasting Recovery if Scotland Votes “No”?

Odds are that Scotland votes to remain within the United Kingdom, but would that produce a lasting British Pound recovery? Extremely one-sided positions warn that the GBP may bounce significantly if “No” wins it. And yet it’s worth remembering the fact that the recent GBPUSD decline began on a material shift in interest rate expectations—not uncertainty over Scotland.

Thus to see a sustained recovery we might need to wait for a much larger shift in market sentiment. As it stands we like staying long the US currency, and certain factors would need to change to shake us from that trading bias.

Potential short-term topside targets include the top-end of the implied range near $1.6600, which likewise coincides with important price congestion levels.

It’s entirely possible if not likely that the British Pound recovers ground versus the US Dollar on tomorrow’s Scotland vote, but clear uncertainty promises volatility regardless of the outcome. Get up-to-the-minute updates via the DailyFX Real Time News Feed, and sign up for future e-mail updates via this author’s distribution list.

Written by David Rodriguez, Quantitative Strategist for DailyFX.com David specializes in automated trading strategies. Find out more about our automated sentiment-based strategies on DailyFX PLUS.

Contact and follow David via Twitter: https://twitter.com/DRodriguezFX

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US Dollar Surges as Fed Upgrades Interest Rate Forecasts

- US Federal Reserve tapers as expected, no major surprises in accompanying statement

- US Dollar surges to fresh highs versus Japanese Yen as interest rate guidance marginally improved

- Markets now await Fed Chair Janet Yellen’s conference at 18:30 GMT

The US Dollar has surged to fresh multi-year highs versus the Japanese Yen as the US Federal Reserve tapered QE policy and raised guidance on the future of interest rates.

Traders sent the Greenback sharply higher across the board on the Fed statement, but eyes now turn to Fed Chair Janet Yellen’s press conference due at 18:30 GMT.

An upgrade in interest rate forecasts was enough to send US Treasury Yields higher as well as drive the Greenback to fresh peaks. Yet there remain questions on exit strategy, and the tone of Yellen’s press conference could drive an important correction.

US Dollar Surges as Fed Upgrades Interest Rate Outlook

US Dollar Surges as Fed Upgrades Interest Rate Forecasts

Source: FXCM Trading Station Desktop, Prepared by David Rodriguez.

Keep an eye on the DailyFX Forex Realtime News Feed for up-to-the-minute updates. We will update any Dollar forecasts during Yellen’s press conference.

Written by David Rodriguez, Quantitative Strategist for DailyFX.com David specializes in automated trading strategies. Find out more about our automated sentiment-based strategies on DailyFX PLUS.

Contact and follow David via Twitter: https://twitter.com/DRodriguezFX

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EUR/USD Vulnerable to Hawkish Fed- Outlook May Hinge on T-LTRO

Talking Points:

- EUR/USD Breaks Out of Bearish Momentum But Remains Vulnerable to Disappointing T-LTRO

- GBP/USD Closes September Gap Even as BoE Votes 7-2; RSI Coming Off of Oversold Territory

- USDOLLAR Remains Overbought; Outlook Hinges on FOMC’s Forward-Guidance

For more updates, sign up for David’s e-mail distribution list.

EUR/USD

EUR/USD Vulnerable to Hawkish Fed- Outlook May Hinge on T-LTRO

  • May hold tight range as market participants weigh the take-up of the European Central Bank’s (ECB) Targeted Long-Term Refinancing Operations (T-LTRO); seeing expectations range from EUR 100B to EUR 150B.
  • The outcome of the T-LTRO may highlight the scope & magnitude of the ECB’s asset-back securities (ABS) purchase program as the central bank’ balance sheet is expected to near the early 2012 highs.
  • Even though the DailyFX Speculative Sentiment Index (SSI) continues to narrow, with the ratio continues to show net-long positioning as it stands at +1.14.

GBP/USD

EUR/USD Vulnerable to Hawkish Fed- Outlook May Hinge on T-LTRO

  • GBP/USD may fill the gap on a close-basis as U.K. Jobless Claims slips 37.2K, while Average Weekly Earnings including Bonus climbs 0.6%.
  • Nevertheless, it seems as though Bank of England (BoE) will retain its current policy as the meeting minutes continue to show 7-2 split, but the GBP/USD looks poised for a larger rebound as the Relative Strength Index (RSI) comes off of oversold territory.
  • Will watch former support zones for new resistance, with the first region of interest coming in around 1.6410 (61.8% retracement) to 1.6440 (23.6% expansion).

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Read More:

Price & Time: Why Late September Is So Important For EUR/USD

GBP/USD Rallied As BoE Voted 7-2 And UK Jobs, Wages Beat Forecast

USDOLLAR(Ticker: USDollar):

EUR/USD Vulnerable to Hawkish Fed- Outlook May Hinge on T-LTRO EUR/USD Vulnerable to Hawkish Fed- Outlook May Hinge on T-LTRO

Chart – Created Using FXCM Marketscope 2.0

  • Dow Jones-FXCM U.S. Dollar Index could be marking a bullish inside day (Harami) ahead of the Federal Open Market Committee (FOMC) meeting as market participants look for a more hawkish twist to the forward-guidance for monetary policy.
  • If Fed disappoints & we get more of the same, batch of dovish commentary may serve as the fundamental catalyst to spur a larger correction in the USDOLLAR.
  • With that said, still need to see the RSI fall back from overbought territory & break the bullish momentum for confirmation & conviction for a near-term decline in the greenback.

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— Written by David Song, Currency Analyst

To contact David, e-mail dsong@dailyfx.com. Follow me on Twitter at @DavidJSong.

To be added to David’s e-mail distribution list, please follow this link.

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EUR/USD Risks Larger Rebound If FOMC Retains Dovish Forward-Guidance

- Federal Open Market Committee (FOMC) Widely Expected to Deliver Another $10B Taper

- Will There Be a Larger Dissent as the Fed Looks to End QE in October?

For more updates, sign up for David’s e-mail distribution list.

Trading the News: Federal Open Market Committee (FOMC) Interest Rate Decision

The Federal Open Market Committee (FOMC) interest rate decision may spur a bearish reaction in the dollar (bullish EUR/USD) if the central bank remains reluctant to move away from the zero-interest rate policy (ZIRP).

What’s Expected:

EUR/USD Risks Larger Rebound If FOMC Retains Dovish Forward-GuidanceEUR/USD Risks Larger Rebound If FOMC Retains Dovish Forward-GuidanceEUR/USD FOMC

Click Here for the DailyFX Calendar

Why Is This Event Important:Even though the Fed is widely expected to conclude its asset-purchase program at the October 29 meeting, we would need a more hawkish twist to the forward-guidance for monetary policy to favor further USD strength.

Expectations: Bearish Argument/Scenario

The dollar may come under pressure should we get more of the same from the Fed, and the greenback may face a larger correction over the remainder of the month should Chair Janet Yellen see greater scope to retain the highly accommodative policy stance for an extended period of time.

Risk: Bullish Argument/Scenario

Nevertheless, sticky inflation paired with the uptick in wage growth may spur a greater dissent within the committee and push the FOMC to lay out a more detailed exit strategy as the central bank looks to move away from its easing cycle.

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How To Trade This Event Risk(Video)

Bearish USD Trade: FOMC Remains Reluctant to Normalize Monetary Policy

  • Need green, five-minute candle following the policy statement to consider a long EUR/USD position
  • If market reaction favors a bearish dollar trade, buy EUR/USD with two separate position
  • Set stop at the near-by swing low/reasonable distance from cost; at least 1:1 risk-to-reward
  • Move stop to entry on remaining position once initial target is met, set reasonable limit

Bullish USD Trade: Policy Statement Shows Larger Dissent & Shift Away from ZIRP

  • Need red, five-minute candle to favor a short EUR/USD trade
  • Implement same strategy as the bearish dollar trade, just in the opposite direction

Read More:

Price & Time: Gold Exhaustion Near?

GBP Remains Vulnerable- USD/CAD Risks Larger Correction on Upbeat BoC

Potential Price Targets For The Release

EUR/USD Daily

EUR/USD Daily

Chart – Created Using FXCM Marketscope 2.0

  • Risks Larger Topside Correction as the Relative Strength Index (RSI) Threatens Bearish Momentum
  • Interim Resistance: 1.2990 (23.6% retracement) to 1.3025 (23.6% expansion)
  • Interim Support: 1.2858 (Monthly low) to 1.2870 (50.% expansion)

Impact that the FOMC rate decision has had on EUR/USD during the last meeting

July 2014 Federal Open Market Committee (FOMC) Interest Rate Decision

EUR/USD Chart

The Federal Open Market Committee (FOMC) voted to reduce its asset-purchase pace to $25B from $35B in July amid the sharp economic rebound in the second quarter. However, the Fed also highlighted the significant underutilization of labor resources and reiterated that it is appropriate to maintain the current fed fund rate for a considerable period of time even after the quantitative easing program ends. The Fed’s dovish tone dragged on the greenback, with EUR/USD climbing above 1.3400, but we saw limited follow-through behind the initial reaction as the pair ended the day at 1.3395.

— Written by David Song, Currency Analyst and Shuyang Ren

To contact David, e-mail dsong@dailyfx.com. Follow me on Twitter at @DavidJSong.

To be added to David’s e-mail distribution list, please follow this link.

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New to FX? Watch this Video

Join us to discuss the outlook for the major currencies on the DailyFXForums