Dollar Update

 October 15, 2009

By nature man hates change; seldom will he quit his old home till it has actually fallen around his ears. Thomas Carlyle, 1795-1881, Scottish Philosopher, Author

The rapid breakdown of the dollar after putting in a series of new highs illustrates what lies in store for it in the years to come.  However, in the interim some sort of relief rally is to be expected as the dollar has mounted a very hard correction in a relatively short period of time. 

The 2 year chart above reveals that the dollar is very close to hitting a very strong support zone that falls in the 75.00-75.50 ranges.  A test of this zone should lead to a bounce that has the potential of taking the dollar to the 80-82 ranges.

Let's take a look at some of the currencies via their corresponding ETF's to see how they are holding up.

The Pound traded to 170 ran into resistance and has since pulled back.  It could potentially trade all the way down to the 145-150 ranges before mounting another rally.

The Yen is also fast approaching a zone that offers strong resistance (114.40-114.61). If it tests this zone again and breaks down, it will have put in a triple top formation, which normally always leads to a very strong correction.

FXC has just traded above a zone of strong resistance and a failure to hold above this level will result in a pullback to the 87-87 ranges.  Given the intensity of the current rally, there is a strong possibility that this break out will fail and lead to a pullback.

It has experienced a brutal correction in a rather short period of time. It is trading at new 52 week low and is very close to testing its 2 year lows.   However, note that it is now very close to testing a very strong zone of support, and as it is extremely oversold, there is a fairly strong chance that it will mount some sort of rally soon.

This dollar bearish ETF is fast approaching a zone of strong resistance (28.50-29.00). UUP has generated several negative divergence signals, and it is now trading in extremely overbought, hence the odds favour a correction.

Several additional factors to consider

Nearly everyone is bearish on the dollar so from a contrarian perspective this is a bullish development as the majority are nearly always wrong.

A lower dollar makes exports cheaper and imports more expensive; this is not what most nations want right now, especially as the U.S. consumer is cutting back and most economies are very fragile.

Finally, from a mass psychology perspective, the following article indicates that we are at some sort of turning point for whenever the press starts to comment on something a trend change is normally in the works.
 

Over the last three months, banks put 63 percent of their new cash into euros and yen -- not the greenbacks -- a nearly complete reversal of the dollar's onetime dominance for reserves, according to Barclays Capital. The dollar's share of new cash in the central banks was down to 37 percent -- compared with two-thirds a decade ago. Full story 

Conclusion

We are not long term dollar bulls, but we feel that dollar is due for a relief rally as it has mounted a very strong correction in a relatively short period of time. We felt the same way from late 2007 to early 2008 and went on record to state that the dollar would mount a very strong rally that would catch the majority with their trousers down.    

Additionally after studying the charts of several currencies we find that most are fast approaching strong zones of resistance, which should lead to a correction before the next leg up. As the dollar has been hammered so viciously it would not be wise to open up new bets against it now. The most prudent move would be to wait for a rally before placing new bets against it, and if you are willing to take a bit of a risk you might even consider opening up long positions in the Dollar and or short positions in the Euro.

Our long term view is that the dollar is in trouble, and it could potentially shed an additional 60% of its value in the years to come.

All charts provided courtesy of www.prophetfinance.com and www.stockcharts.com

if we begin with certainties, we shall end in doubts; but if we begin with doubts, and are patient in them, we shall end in certainties. Francis Bacon 1561-1626, British Philosopher, Essayist, Statesman