AUD USD at critical juncture after China led rout

The European session has drawn to a close in what has been a very wild day in the markets. Though equities managed to bounce off their worst levels, the UK’s FTSE and Germany’s DAX still closed more than 4.5 per cent in the red with the latter finding strong support from a long-term bullish trend as we had highlighted earlier in the day (see “European stocks extend drop after China’s ‘Black Monday’” for more). Wall Street recovered too with the Dow Jones Industrial Average reducing its earlier loss of a huge 1000 points to ‘just’ 250 at the time of this writing. Commodities also managed to bounce back with US oil recovering to $39.00 a barrels from below $37.80 earlier in the day. In FX, the EUR/USD, which had climbed to above 1.1700 at one stage, was trading around 1.1600 at the time of this writing, though as my colleague Matt Weller pointed out, further gains now look likely as traders unwind some of their long dollar positions on reduced expectations of a 2015 Federal Reserve rate hike. Similarly, commodity currencies like the AUD/USD and NZD/USD have recovered remarkably well following their huge losses earlier in the session.

In fact, the AUD/USD could be on the verge of a big move for it is currently hovering above a major area of support around 0.7000-0.7180. As can be seen from the monthly chart, below, price is testing a bullish trend line that goes back all the way to the year 2001. The 61.8% Fibonacci retracement of the entire 10-year rally from 2001 to 2011 also comes in around this area. The lower end of the abovementioned range, i.e. 0.7000, is a psychologically-important level.

Thus, what the AUD/USD does around here next could determine the direction for days or weeks to come. If the buyers manage to defend this 0.7000-0.7180 area, then the Aussie may manage a short-covering bounce towards key resistance around 0.7550, a level which was previously support, before deciding on its next move. On the other hand, a decisive break below this range could lead to further follow-up technical selling. As there are not much immediate long-term supports underneath 0.7000, a break below this level could pave the way for an eventual drop towards the 78.6% retracement at 0.6125 or the next psychological hurdle at 0.6000.