Politics Aside, the Dollar Is Still Looking Strong

The dollar’s recent news-driven pullback and subsequent

By Michael Kahn 

 
Before Monday, the U.S. dollar was having a rough go, steadily for eight days. With just one news report over the weekend, that slide abruptly ended - and the bulls can once again look forward to a possible major upside breakout.
 
If there is one thing technical analysts have to accept it is that events from outside the market can completely invalidate their analysis. Last month, Federal Bureau of Investigation director James Comey announced that he had reopened what was thought to be a wrapped-up investigation into Hillary Clinton’s emails. Markets went into a tizzy.
 
Then Comey announced over the weekend that there was nothing new to investigate, and markets soared.
 
For the PowerShares DB US Dollar Index Bullish exchange-traded fund (ticker: UUP), it still appears that it was a rather normal pullback from resistance that ended with a sharp rally.

And taken in context, that leaves the bulls in a rather strong position near the top of a 19-month falling trend channel (see Chart 1).

Chart 1

PowerShares DB US Dollar Index

 
It’s a bullish sign when a market reaches resistance and falls only a small amount relative to the overall pattern in which it resides. After all, when the bears take over at resistance but cannot really drive the price down very much, we have to assume that demand is still rather strong.

The bulls will likely attempt another breakout, and the odds of its success are good.

Of course, it was election-related news that got the dollar to pull back, and it was election-related news that reversed that slide. When the election results are tallied, it is entirely possible that they will once again dominate the technicals. Trading in this environment is inherently riskier than normal.
 
Still, the election, while it can have long-lasting policy implications, is still likely to roil the markets for only a short period of time. The long-term charts are still going to give us a good framework going forward.

The dollar index and the PowerShares dollar ETF both track the greenback against a basket of currencies, with the euro getting more weight than the other component currencies combined.

A chart of the CurrencyShares Euro Trust ETF (FXE), which tracks the euro, shows a narrowing trading range and no immediate threat of a breakout in either direction (see Chart 2).

Chart 2

CurrencyShares Euro Trust ETF

 
However, the pattern is fairly mature, suggesting a breakout could be only a few weeks away.
Given the short-term trend currently in progress, my own read is that the euro still has downside room. A falling euro gives the U.S. dollar a bullish wind behind its back.

Trends in the Swiss franc and British pound concur. The franc mirrors the euro, while the pound is still reeling in the wake of the Brexit vote.

One currency that usually gets little press is the Mexican peso, but it has been thrown front and center into the current election coverage.

Peso futures have been in a brutal bear market versus the U.S. dollar for years, but the current steep declining trend began in earnest in mid-2014 (see Chart 3). This market was in trouble long before Donald Trump announced his candidacy in June 2015 and trade with Mexico was perceived to be under threat.

Chart 3

Mexican Peso


Curiously, the peso peaked a few days before the FBI’s October announcement and reversed course to the upside last Friday, before the FBI’s follow-up announcement. Based on chart action, either moves in the peso predict election-related news, which seems highly unlikely, or there is no meaningful technical correlation between the peso and the election.

The Mexican peso is still dominated by a long-term bear market. Trading in 2016 has formed what looks to be a terminal wedge pattern. This is a triangle-like pattern that points in the direction of the existing trend.

However, its contracting ups and downs suggest that the trend is getting very tired and nearing its end.

Rising momentum indicators confirm that the bears’ power is diminishing, and that does set the stage for an upside breakout in the peso fairly soon.

Pundits will likely credit the election for the success or failure of that breakout attempt. But with a bear market this deep and a potential bottoming pattern lasting for nearly a year, they cede too much power to politics. This market has been developing for a long time away from the spotlight.

In my view, the U.S. dollar still looks to be strong and on the verge of a long-term breakout. It is just too risky to try to use technical analysis today to call what will happen on the other side of this most contentious election.

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