Tag Archives: USD

The other day there was a post looking at the May seasonal biases for the USD. It talked about this month being the strongest for the greenback over the last five years. While that may be true, five years of monthly figures is definitely not enough to draw much in the way of statistically significant findings. In that short a period of time, we really need to have a look at potential causality to see if the pattern is likely to persist in 2014.

Fundamentally, May does not stand out as a month which suggests itself as a candidate for a strong seasonal pattern. It is not a time of year where we would expect to see major international capital flows that way we see around year-end. Nor it is even a quarter-end month.

So what might be the explanation for May being a good month for the USD?

Well, stock market performance could be a big part of it – or at least the psychology related to that performance. You see, as the monthly S&P 500 chart below shows, in three of the last 5 years the US market has been down in May – in a couple of cases quite sharply.

S&P 500 Monthly Chart showing May - click to enlarge

Now consider that for much of the time since 2007 the markets were in a risk-on/risk-off binary type of state where asset markets like stocks and safe-haven markets like the dollar moved largely in opposite directions. This could be a significant factor in why the dollar has done well in May in the last few years, especially against the likes of the EUR and AUD as that previous blog post indicated. The question to be considered now is whether the conditions are in place for a similar sort of story to unfold this year. Are we in a risk-on/off type market and are stocks likely to struggle over the next few weeks.

Certainly there are voices calling for a “Sell in May and go away” approach to the equity markets at this point. Personally, though, even if that’s the case I’m not a big fan of the current USD set up. It looks weak in the weekly timeframe to me.

In terms of the seasonals, my own research does indicate a positive general USD pattern this month based on a 30 year sample. EUR/USD is not really part of that equation, however. It has been just about a 50/50 bet in May since inception. The AUD and GBP have both been on the receiving end of that dollar strength, and to a lesser degree so has the JPY. Interestingly, however, the CHF has been on the other side of things. These are perhaps worth keeping in mind as you trade this month.

There’s a fairly well-established pattern in the forex market where the USD is concerned. It usually finishes the calendar year weak, but gets strong into the first part of the new year. We’ve seen it to a degree this time around in that the USD Index dropped near the start of December, but then surged back from late-month lows to make solid gains over the first week or so of January.

If the general pattern holds, we should expect the dollar to continue to be somewhat strong in the weeks ahead. As the table below shows, the greenback has a positive bias for about the first two months of the year.

What the table depicts is the average gain/loss of the USD relative to the other major currencies for each week of the year projecting 1 month (4 weeks) forward. So using week 1 as an example, on average, if one had bought the dollar on any day in the January 1st to 7th period they would experience a gain of 0.6% over the next month. Obviously, this doesn’t account for leverage. (Source: Opportunities in Forex Calendar Trading Patterns)

We are just now finishing up the second week of the year (January 8th to 14th), which mean that according to the “seasonal” pattern for the USD the upside bias will be favoured for a few more weeks to come. Of course there are no guarantees when it comes to these sorts of patterns. Some years they just don’t play out. Also, even when they do there can be considerable volatility along the way. In other words, a simple buy/short-and-hold approach is rarely advisable and could be quite nerve-wracking even when it works. Rather, think of this sort of information as something which could be an additional filter or decision input into your trading.

It should be noted that the USD is by no means the only currency which has these sorts of calendar or seasonal biases. All the majors do to a greater or lesser degree at different times of year – and when those patterns coincide you get some interesting features to trading in the major pairs and crosses.

This chart was posted up by Business Insider yesterday. What you’re looking at here is the flow of investment capital into European stocks in the last few months (using a 10-week moving average).

The two charts below provide supporting evidence of the impact of these flows on the euro and European stocks. The first chart features the German DAX stock index with an index of the EUR (non-traded but calculated by Thomson Reuters).

The second is a similar pairing of the S&P 500 and the USD index. The one thing which really stands out is the difference in the tracking of the two currencies. The euro has been gaining ground while the dollar has been losing it.

The whole US government shut-down and debt ceiling debate has of course driven the markets to a large degree, but it’s important to always keep in mind that at the core of things it’s the movement of money around the globe which creates the underpinning of exchange rate movement. The investment inflow figures above represent the fundamentals of the market – the reality which can at times be masked by shorter-term speculative market activity.

The question we have to ask – and try to answer – is of course what’s driving the investment flows into European stocks. Of the major financial markets, equity flows tend to be the slowest to happen, so when we see it we can be pretty sure it represents real money being put to work. That isn’t always the case when looking at the fixed income market.

At the same time, stock markets tend to lead the economic indicators. This suggests we’re seeing an improvement in the European economy being priced into share prices. Certainly, that’s being supported by the improvement in the euro. There is significantly less concern about what’s happening in the EZ these days. This isn’t to say things are going great guns, but conditions are improved.

Of course everything is relative. For a while it was the US out in front of the rest of the world in terms of economic recovery. The government shutdown puts that at some risk. Economists have already put out estimates for how much that will take off US GDP. So long as that concern is out there, Europe will be a beneficiary.

It’s been a while since I last wrote about the stock market in a specific fashion, so I figured I’d use this post to circle back around to see what equities are doing now that the dust has cleared from the Fed’s lack of taper decision and with everyone getting uppity about the prospects of a US government shutdown. Back toward the end of May I talked about a strong uptrend in the S&P 500 that perhaps needed a bit of a break. We did indeed see that come above as the index retraced down below 1600 for a short while. There was never much threat of a trend reversal, though, and we’ve seen two new highs (at least intra-period) come about since.

The uptrend is getting precarious at this stage, though. The weekly chart below provides a couple of worrisome indications. First is the lack of punch in initial move above 1700. It was a new high, but one which failed to create much in the way of extension beyond the one from May. That’s a sign of flagging momentum.

The other problematic development is the failure to hold new high two weeks back. It hasn’t left a key reversal day, per se, but we could very easily think of the candle for that week as something akin to a shooting-star, which is a bearish reversal set-up.

The interesting facet of the charts at this stage is the relatively narrow Bollinger Bands. They have been angling closer together for some time now, which often happens during sustained trends. The fact that they have started widening again of late tends to have a bullish implication, but only if that uptick is sustained and confirmed by positive action. If the market continues to retrace it will very likely mean the Bands starting to narrow once more. That would not be a positive development as it could be the precursor to a significant move lower.

Interestingly, the correlation between the USD Index and the S&P 500 has been turning up of late. This suggests the currency and equities are trading off common fundamental drivers.


There hasn’t been much in the way of follow through action after the markets reacted to the lack of a FOMC tapering action last week. That initial drop took the USD Index down through the August lows, and also the ones from June.  As the chart below shows, though, so far we haven’t seen a continuation down toward February bottom. This is despite the fact that we’re in a clear trend continuation situation based on the support breaks and the rising Bollinger Band width.

So what’s the likely dollar course from here?

Well, it’s noteworthy that support so far has been found near 80. That is the top end of a January consolidation range from before the final pre-bull trend breakout back in February.  Having been tested a couple of times, we can certainly peg that zone as support.

This gives us a narrow range we need to keep in mind – 80 at the bottom end and 81 at the top end. The latter is basically the double bottom area put in last month. It should be resistance from here now that it’s been broken. The direction the market finally takes out of this band will very likely be the next trend path.

The weekly chart, with its double top type of pattern provides a negative bias to the longer-term view. As I noted in my post-FOMC note, however, the fact that we haven’t yet seen an extension to the USD sell-off after the initial reaction is telling. This is even more notable given the weakness the dollar has seen the last few weeks. The suggestion is then that the market action after the lack of a taper announcement could be viewed as a blow-off move to end the trend. If the market sustains a move back above 81, I will take that as strongly supporting this hypothesis.

Bonds have been much talked about of late. Given the sharp rise in interest rates in recent weeks (60+ basis points from the low for the 10yr Note in early May), it’s pretty easy to understand why. The question is one of causality. There are a few potential candidates.

The first is the economy. It is natural when things are improving for interest rates to start working higher. There is more demand for money for spending and investment, which drives yields up. There is also the anticipation of higher inflation, which leads fixed income investors to demand higher yields to compensate for the lost purchasing power. We may not be looking forward to the US economy growing at 5% per year any time soon, but even if it grows in the 2%-3% range, which seems the expectation, high yields than what we’ve seen are easily justified.

The second candidate for the push up in rates by the market is the Federal Reserve. That’s obviously tied in with the economy discussed above in that we would naturally expect the Fed to bias toward higher rates with an improving economy. In this case, though, we have to add in the quantitative easing aspect. The Fed has unemployment as its target and as the chart below shows, that’s been steadily moving lower. As a result, the market is already looking forward to the eventual retraction of all that money printed to purchase Treasury securities and other debt instruments.

A combination of a stronger economy driving higher demand for money and Bernanke & Co. ending Q.E. creates the potential for a rapid upside movement in rates. How fast will depend on how the Fed unwinds. First, there is the step of halting continued purchases of Treasury paper ($85bln/mo). That will reduce demand, which in and of itself would impact yields. Then it becomes a question of whether Treasury securities are sold off or just held to maturity.

Much has been made of the potential losses the Fed could suffer on rising interest rates (like this Bloomberg story). Many market participants make a big deal of this because not only would higher rates mean bigger losses given where all the purchases have been made (low rates meaning relatively high prices), but the act of unwinding the portfolio would likely exacerbate things. As the Fed sells off its Treasuries it would tend to accelerate the rise in rates, and worse its losses.

Here’s the thing, though. The central bank need not sell back its holdings into the market, though. All it needs to do is hold them to maturity to avoid taking any losses (except in the case where Bonds and Notes were purchased for higher than par value, though even there interest income would more than offset the loss of principal). And the Fed need not sell Treasuries to shrink the money supply (selling brings money into the Fed, taking it out of the system). It can do repos to accomplish the same effect.

So with that said, what are the prospects for US rates?

Well, the weekly chart of 10yr yields below tells me that more upside is likely.

The widening of the Bollinger Bands indicated by the turn up in the Band Width Indicator line at the bottom (measuring the relative width of the Bands) says we may just be in the early stages of a trend move. The 2.40% rate area is massively important resistance, however. Notice how it was first a support zone when the market dropped in 2010, then became a topside barrier once broken below in 2011. How the market reacts to making a test of 2.40% will tell us a great deal about its strength or weakness.

Rising US rates, by the way, will only tend to make the USD more attractive to capital inflows.

The folks at Business Insider recently posted the following chart showing the position of the futures market in terms of the US Dollar. It comes from the weekly Commitment of Traders report and shows that the net long USD position of the market has gotten near the highest levels from 2012.

The suggestion of that article is this kind of extreme reading is likely a signal the market is due for a reversal. Certainly it has been the case that extreme net long or short positions have seen the greenback turn in the opposite direction, though it is worth noting that the case of both the 2011 low and the 2012 high, there was a bit of a lag before the market began trending the other way.

With that in mind, it is worth taking a look at the current chart of the USD Index to see what it might tell us about the technical condition of the market. Specifically, do we have an overbought market right now?

The weekly chart below does definitely have some interesting features. The one which stands out most clearly in support of the case for an overbought market is the RSI reading, which is depicted in the lower plot. Notice how it has reached very near to recent prior peaks.

That said, we don’t have a lot of other indications of a market which has gotten overextended to the upside. The chart pattern itself has been classically stair-step in nature, which is not the type of action which tends to create strongly overbought conditions. The Bollinger Bands have been widening, but at this stage are not exactly wide, as shown by the middle plot.

I think at this stage the odds favor a bit more upside for the USD. You will notice that these bias extremes do not come as singular spikes in most cases. That means there’s room for further appreciation, even if the market turns down as soon as the bullish imbalance starts to come back down. Should there be a lag between imbalance shift and price reversal, though, it could be a couple months before the greenback finally tops out.

In any case, the break of the 2012 highs does support at least a little bit more upside action. I don’t know that a test of the 2010 highs is in the cards for this particular uptrend leg, though.

The stock market has reached new all-time highs, which is generating considerable interest in the media. That, of course, is no surprise. Perhaps the surprise comes from the fact that stocks have been able to get as high as they have. We are, after all, still looking at an economic situation in the US and elsewhere that is anything but robust. And yet, a look at the monthly chart for the major global stock markets shows that the likes of the S&P 500 and German DAX have broken then 2007 peaks. The NIKKEI still has some way to go to catch up to the others, but is already up better than 50% in 2013, so is making ground rapidly.

Quantitative easing in its various forms around the world is being given quite a bit of credit (or blame) for stocks being able to carrying on rallying despite the headwinds which remain at work. Europe, for example, still faces significant issues in the Euro Zone, and nobody is going to say Japan doesn’t still have a ways to go to get as healthy as it should be.

The interesting part of all this is that the new highs in the stock market are coming in conjunction with a higher dollar. Unlike earlier in the year when it was just a weak euro holding the USD Index up, the latest push that saw the greenback break the 2012 high came on across-the-board strength.

What makes this unusual is the fact that the dollar generally doesn’t do well during good economic conditions because imports tend to rise relative to exports. This is particularly noteworthy at this juncture given that the US has been ahead of many others in terms of getting things pointed in the right direction. We would expect to see import demand boosted as export demand continued to struggle because of weak conditions elsewhere.

So what’s going on?

Well, decreased imports of crude oil (lowest level in 17 years in March) are helping keep the US trade deficit contained. Still, the US continues to run a deficit, which tends to weaken the value of the dollar. The USD must be getting strength from capital flows rather than anything trade related. Certainly that shows in the Treasury market where there was a sharp drop in 10yr Note yields after they peaked in Q1, indicating a considerable increase in demand (similar moves were seen in German and UK rates, it should be noted, but “internal” demand is a bigger factor there than in the Treasury market).

That has reversed of late, though, with yields moving back up in line with higher stock prices. This is the sort of thing we’d expect to see if gains in the equity markets were being driven by expectations for higher economic growth.

So is it quantitative easing? Or is it an improved economic outlook?

The truth is probably a bit of both. There’s no doubt that the increased money supply created by QE in its various incarnations around the world provides a boost to asset prices. It’s simple supply/demand figuring. More money chasing the same (or fewer) securities produces higher prices. At the same time, though, stock prices have risen of late more rapidly than new money is being created by the world’s central banks. Also not supporting the QE impact case very much is the stagnation in oil prices and the persistent weakness in gold, both of which should be pointed higher if QE were a major influence on prices.

Does that mean stocks will keep going even after the money supply taps are turned off? Maybe so. Right now there isn’t a lot to suggest they are due for a major reversal.

The two concerns technicians will point to in the above SPY chart, however, is the market getting extended beyond the upper Bollinger Band of late and the unimpressive volume. The former suggests a market that has perhaps gotten a bit ahead of itself and is therefore due a pause or retracement. The latter is a bit more uncertain. We’d ideally like to see increased volume on a new high, but we’re just not getting it.

This may not be a bad thing, though. Before 2007 the markets moved steadily higher without a lot of volume improvement. We could be seeing something similar again, in which case the worry would be if we saw volume and volatility start to tick up together as we did six years ago.

Just about two months ago I wrote about my expectations for an expansion in volatility in the dollar. That was based on looking at the weekly USD Index chart and observing very narrow Bollinger Bands, which is often a precursor to the start of a new trend in the markets. As we can see, the greenback has indeed broken clear of the range it started the year in, and of late has reached within striking distance of the 2012 peak.

We can see from the Band Width Indicator in the sub-plot above that the Bands are now in about the middle range of how wide they have been over the last couple of years. That means there is yet some room for further extension to the trend (thought it should be noted that sustained trends often seen the Bands start to narrow).

The daily chart gives us an indication that we just might see that fairly soon. Notice how in that time frame the Bands have reached their lowest levels in the last 12 months. That, in and of itself, is not a directional indication, however. It merely tells us that we probably don’t have long before the recent consolidation in the USD gives way.

So what can we glean about potential direction from the dollar pairs?

If we look at EUR/USD we can see the market has already extended its trend lower and turned a low Bollinger Band situation up.

The USD/JPY situation is quite different. Here we have a market which has already retraced quite a bit from its highs and has been developing a topping type of pattern overall of late.

Similarly, GBP/USD has also been working back higher, showing indications of a trend change.

AUD/USD has been moving higher for some time now. It does face important overhead resistance from the highs near the start of the year, however.

Meanwhile, USD/CAD shows a pattern not dissimilar to that of USD/JPY and GBP/USD in that the greenback has been weakening noticeably of late.

Taken together, we have a picture telling us that the only reason the USD Index is holding near its higher levels is the weakness in the euro. As a result, if the single currency develops some strength – even if it just takes a pause to consolidate the recent downtrend – we could see the index drop. That is not at all contrary to what we see on the USD daily and weekly charts. It would be quite easy for the greenback to retrace back toward the Q4 highs broken earlier this year. That would be important support now.

You may recall my post from a few weeks ago talking about how the strong stock markets may be signalling a turn in the dollar. In a way, we’ve already seen it happen as equity indices have continued to move higher. Now it’s just a question of whether the euro can stabilize and put the USD Index under pressure as a result.

Stocks are trending higher and the dollar is doing the same. That’s not something we’ve seen much of over the years. We can see from the chart below comparing the S&P 500 to the USD Index how unusual it is for the two to move in the same direction. No doubt the recent positive correlation has thrown a number of algos for a loop.

Of course the whole risk-on, risk-off pattern of the markets holding forth during long periods since the Financial Crisis played a major part in defining a negative correlation between stocks and the US dollar. Traders and investors would either flee from “risky” assets into the safety of the greenback (and US Treasuries), or do the reverse. Obviously, that’s not what’s happening at the moment.

So what’s happening now?

I’d argue we’re back to more “normal” markets which are less psychological and more fundamental. By that I mean exchange rates are moving on market participants’ perceptions of the differences between economies, rather than just reacting to fear.

That said, it is often the case that the USD falls in periods of economic strength. This is driven by American demand for imports. These days the US seems to be the strongest among the major Western economies, so we would expect to see a similar pattern. The markets, however, are reflecting other dynamics at work. Monetary policy is a big factor.

Better economic figures in the US lead investors to start to look at when the Fed will start taking a less accommodative stance. In and of itself, that tends to be positive for the greenback (less or no asset purchases means reduced increase in dollar supply). At the same time, though, Europe continues to have significant issues, and the same can be said of Japan. No one is talking about tighter monetary there, so those currencies are suffering by comparison.

The question is how long that will continue.

As we can see from the chart below, which includes the German DAX index as the lower plot, European stocks too have broken the 2011 highs and are close to the ones from 2007 (the FTSE is showing comparable performance).

The implication of rising stocks on a global basis is the anticipation of better times ahead. Stock market investors may have it wrong (wouldn’t be the first time), but if they don’t, then we should look for improvement in the European situation in the months ahead. That would very likely then mean the dollar losing its strength as more traditional patterns are seen (dollar weak in good economic times). That will be worth watching, as it we don’t see the USD rolling over before too long it may be a sign the stock rally will have trouble continuing.