A REFRESHED GREENBACK / BARRON´S ( VERY HIGHLY RECOMMENDED READING )

MONDAY, DECEMBER 21, 2009

GETTING TECHNICAL

A Refreshed Greenback

By MICHAEL KAHN

After being mired in a deep bear market, the dollar has made a nice recovery. The charts suggest that there may be more to come.

WITHOUT ANY FANCY INDICATORS, it was easy to tell in recent months that the U.S. dollar was one of the most universally unloved financial instruments of all time.

From fundamental reasons citing uncontrolled spending to technicals such as a relentless declining trend, many thought the greenback was the dodo bird of world currencies. Extinction, here we come.

And just when everyone was looking the other way, the floodgates of buying opened on December 4 and the dollar soared against all other major currencies and gold, too. Although now at technical resistance, the US dollar index looks to have a more room to rally. (See "The Buck's Rally Has Legs – For Now," Barron's Follow-up, Dec. 21, 2009)

Last month, the signs for an awakening started to appear. Sentiment readings from various surveys showed a very crowded anti-dollar trade. Momentum readings eased higher despite falling dollar values. And on the December 4 upside explosion, the dollar broke its key short-term 20-day moving average to the upside.

As of last week's trading, technical conditions that led to the bounce have been alleviated. Both short-term and long-term oversold conditions are gone and the index is up more than 5% from its November low. For currency markets, 5% is a rather hefty move in three week's time so a little rest is in order.

Further, the charts now show that the dollar has been in a resistance zone dating back to 2007 (see Chart 1). It makes for an obvious place for this rally to end and that is exactly why I think there is another leg higher yet to come. In the financial markets, obvious events rarely happen.
Chart 1
Recently, the dollar has retraced about 25% of what it lost between March and November of this year. While certainly not a rule, chart watchers often look for a bit more - on the order of 33%, or one-third - as a standard correction. If this were to happen it would take the index close to 80.

Over its multi-decade trading history, the 80-level provided an almost impenetrable floor until the financial crisis took hold in 2007. And during the turmoil, it acted as both support and resistance and that makes it a reasonable target once again.

The principal casualty of the dollar's rebound is the euro. The CurrencyShares Euro Trust exchange traded fund (FXE) took the brunt of the selling and sliced below its bull-market trendline (see Chart 2). It is already in the one-third correction zone so we can look ahead to an eventual test of the 50% correction in the 138 area.
Chart 2

A similar move is evident in the Swiss franc but not in the Canadian dollar, Australian dollar or British pound. One possible conclusion is that we are seeing significant euro weakness instead of just dollar strength. Given current debt crises in several member nations of the European Union, this is not a surprise.

Many now consider gold to be a currency, too. As mentioned, gold was hammered on December 4 as the dollar soared. Of course, a good deal of that decline was due to the fact that gold is priced in dollars. A strong dollar, with all else being equal, means it takes less to buy the same amount of gold. Gold prices necessarily fall.

My own view on gold is that it has additional downside in its future before its long-term bull market resumes (see Getting Technical, "Gold's Next Leg Up is $1,350 an Ounce," December 7). Basically, I look for another 5%-10% decline to the 1000-1050 level with 1050 more likely the bottom. That would dovetail nicely with a further modest gain in the value of the dollar.

To be sure, I am far from a long-term dollar bull. What I see is technical adjustment to a grueling 2009 decline. Once that is over, the decks would be cleared for renewed weakness.

Michael Kahn, mutual fund co-manager, author of three books on technical analysis, former Chief Technical Analyst for BridgeNews and former director for the Market Technicians Association, also blogs at www.quicktakespro.com/blog.

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