Dollar Surge is Only the Beginning
Fundamental Forecast for US Dollar: Bullish
- US Dollar surge coincides with material bounce on FX volatility prices
- Cyclical studies suggest the USD may have hit a key low
- Follow the DailyFX team in the Live Trading Room in the week ahead
The US Dollar finally showed signs of life and surged against major forex counterparts even as the S&P 500 finished at record-peaks. The safe-haven USD may rally further as sharp gains in FX volatility prices suggest the Dollar breakout is the “real deal”.
Dollar gains in the face of high-flying stock markets tells us that the “Dollar Up/Risk Down” regime has clearly shifted, and we increasingly expect the Greenback to climb to fresh highs regardless of price action in the S&P 500. Foreseeable US economic event risk picks up in the days ahead and increases the likelihood of further USD volatility.
Traders will watch for surprises out of US Advance Retail Sales, Producer Price Index, Consumer Price Index, weekly Initial Jobless Claims, and U of Michigan Consumer Confidence reports for their next clues on the state of the world’s largest economy. It’s rare that markets pay any real attention to the weekly Jobless Claims results, but the fact fresh claims for unemployment benefits recently hit five-year lows leaves focus on future prints for confirmation of relative labor market strength. Traders will similarly look to consumer spending (Retail Sales), consumer confidence (U of Mich survey), and inflation numbers (CPI and PPI inflation) to have a more rounded view of US economic conditions and the future of Federal Reserve monetary policy.
It was nonetheless telling that the Dollar surge didn’t come on any specific economic news or even sharp volatility in other asset classes. The Greenback traded mostly sideways into Thursday afternoon, when an unexpected move higher in the USDJPY took it above the psychologically critical ¥100 mark and sparked a broader Dollar rally.
Various news sources claimed that the USD rally to fresh multi-year peaks came on impressive US Nonfarm Payrolls report data (released six days earlier) and strong Initial Jobless Claims results (released six hours before the Dollar surge). In truth, it seemed as though the US currency began marching to the beat of its own drummer as it tore to fresh peaks against the Yen and took out key resistance levels versus the Euro and Australian Dollar. Where does this leave us?
We’ll typically ask (and get asked) “what moved the Dollar Higher?” It seems far-fetched at first glance, but it really does seem as though the Dollar’s important breakout is leading moves in broader markets and not the other way around.
The Dow Jones FXCM Dollar Index is coming off its biggest two-day gain since December, 2011, but Thursday’s initial Dollar surge did not immediately elicit major reactions out of normally-correlated commodity markets. It was on Friday’s continued USD rally that we saw across-the-board losses in Gold, energy prices, and even agricultural commodity markets. Sharp sell-offs in USD-denominated commodities suggest that FX traders are not alone in betting on/hedging against Greenback gains. Fixed income markets likewise showed sympathetic moves as the 10-year US Treasury Yield jumped to its highest levels since April. It was almost a positive feedback loop as traders seemed once-again interested in the Dollar’s growing yield advantage versus the Euro, helping push the EURUSD to fresh lows.
The one major discrepancy is the fact that the USD-denominated S&P 500 finished at record peaks. Ever since the start of the financial crisis in 2007/08, the Dollar would most often weaken on stock market strength and vice versa. Can the US Dollar continue higher as stocks trade to fresh peaks? In our opinion—sure. There’s nothing in the natural law of markets that says the USD has to fall as the Dow takes out its highs.
It’s shaping up to be another important week for the Greenback as FX markets get shaken out of relative complacency. A surge in FX volatility prices suggests that many traders are betting on and/or hedging against further Greenback strength. Such a forecast lines up well with evidence that the US currency may have hit a key cyclical low versus the Euro, British Pound, and Japanese Yen. - DR