Just as a photon is both a particle and a wave, the dollar is both fulcrum of the foreign exchange market and a currency itself. Both features were on display last week. The dollar was firm against most of the world’s currencies, as the depth and breadth of the US debt market drew savings in a time of high anxiety. Among the majors, the greenback’s fulcrum role was evident.
On one side, the heavy side, of the see-saw, were the dollar-bloc currencies and the Scandis, often strong performers in risk-on phases and are punished in risk-off periods. On the other side, were the funding currencies (Japanese yen and Swiss franc). Sterling drew succor from the BOE’s decision not to cut rates. It also seemed to benefit from the dovish spin given to the FOMC meeting that stood pat. The euro was mostly flat against the dollar until just before the weekend, when more poor US economic news and month-end flows lifted it 0.5%.
The interest rate market has moved quickly to discount a 40 bp of easing by the Federal Reserve. Expectations swung based on three considerations: weak economic data on balance, dovish understanding of the Fed’s communication, and the 2019-nCoV coronavirus disruption. Some market prices indicate that the collective wisdom is that the Fed is behind the curve. The 2-10 year curve has halved to 18 bp in January. The 3-month-10-year curve has inverted. The 30-year bond yield slipped below 2%
The dollar has fared better than this shift in interest rate expectations would normally imply. However, as discussed below, the technical indicators suggest the dollar’s role as fulcrum may continue, but the decline of dollar-bloc currencies and Scandinavian currencies are getting extended. This leaves the risk of a further topping of third significant dollar rally since the end of Bretton Woods.
Dollar Index: The Dollar Index reached nearly a two-month high on January 29 near 98.20 before selling off sharply to fall below 97.40 before the weekend, a two-week low. The pullback since the midweek high approached the (50%) retracement of January’s gain (found a little below 97.30). It closed on its lows and below the 20-day moving average for the first time since January 7. The MACD and Slow Stochastics have just rolled over, suggesting a correction may be at hand. It has to take out 97.00 to be interesting and set up a re-test of H2 19 lows set in late December near 96.35.
Euro: The selling pressure drove the euro below $1.10 last week for the first time since the end of November. The downside momentum had been easing. It rallied to almost $1.11 ahead of the weekend, retracing (38.2%) of the month’s decline (~$1.1085). The technical indicators are have turned up, suggesting a further recovery is the path of least resistance, provided the $1.1030-$1.1040 support area hold. The next retracement target (50%) is near $1.1115, which is around where the January downtrend begins February, and then there is the 200-day moving average by $1.1125. Further afield, a test on the $1.1200-$1.1250, the upper end of the six-month trading range.
Yen: The dollar was stalling out above JPY110 before the reported outbreak of the new coronavirus and seemed vulnerable to a setback in any event. The dollar gapped lower on Monday and closed the gap on Wednesday before posting an outside down day ahead of the weekend. It traded on both sides of Thursday’s range before closing below Thursday’s low (~JPY108.60). It closed below the 200-day moving average (~JPY108.45). It is approaching the trendline drawn off the August 2019 and the mid-January spikes and begins the new week near JPY108.20, which coincides with the lower Bollinger Band. A break suggests a test on the early January lows that extend toward JPY107.65. The MACD and Slow Stochastics are moving lower.
Sterling: The market responded to the Bank of England’s decision to keep rates steady by bidding sterling up. In fact, sterling went bid just prior to what investors had seen as a close decision and has sparked an inquiry. Sterling posted an outside up day and saw follow-through buying ahead of the weekend that lifted it above $1.32. In so doing, it broke the January downtrend. The MACD and Slow Stochastic are not generating robust signals, while sterling’s strength lifted it above the upper Bollinger Band (~$1.3185). If the consolidative phase is over, sterling should take out the end of December high near $1.3285.
Canadian Dollar: The US dollar has been streaky against the Canadian dollar. It has rallied now for four consecutive weeks, which is the way the previous five-week rally ended. The technical indicators are getting stretched, but there are no divergences materializing. The momentum has been strong but orderly as it bumps against the upper Bollinger Band intraday but closes within it. Look for a reversal pattern of some kind to indicate a top is in place. For the past six months, the greenback has gotten toppish as it moved above CAD1.33, and it rallied in January from about CAD1.2950 to CAD1.3250 ahead of the weekend.
Australian Dollar: The Australian dollar carved out a head and shoulders topping pattern that we tracked. The measuring objective was near $0.6660 and the Aussie approaching it. The Aussie rose in only four sessions in January, and that includes one day each in the past three weeks. After peaking on New Year’s Eve a little above $0.7030, it fell to nearly $0.6680 ahead of the weekend, the lowest level in almost four months. The MACD is still headed lower, while the Slow Stochastic is exhausted and flatlining in oversold territory. The Aussie finished week and month below the lower Bollinger Band (~$0.6710). The multiyear lows were set in Q3 19 were around $0.6670. It has not traded lower in the 2008-2009 crisis. The re-opening of China’s market may help lift the uncertainty that has plagued it as a perceived liquid China proxy.
Mexican Peso: The dollar rose for a second week against the Mexican peso, but still lost a little less than 0.5% for the month. The risk-off mood has seen the intraday swings expand, but the dollar remains range-bound in its trough, which is roughly MXN18.65 to MXN19.00. The technical indicators still warn of an upside break. In the futures market, the bulls and bears reduced exposure by roughly the same amount, leaving the net long position little changed near record levels. Three-month cetes (Mexican bills) pay 7% yield, offering a plump carry as US funding rates fall.
Chinese Yuan: Since the mainland’s markets closed on January 23, the dollar has risen by almost 1% against the offshore yuan. If this move replicated when the onshore market re-opens, the greenback would trade near CNY7.0. A strong sense of the magnitude of the economic disruption and the policy response will take some time to work out. But the health shock will be an economic shock with reverberations across the world and the movement of people, goods, and services. Despite the official end of the extended Lunar New Year holiday, large swathes of the country will remain closed.
Gold: After rallying for eight of the past ten weeks, gold closed at fresh seven-year highs, just below $1.590. The technical indicators suggest room to rise further, and the next import chart point is the early January spike-high on the US-Iran confrontation near $1611. However, the nearly 1% gain and outside up day ahead of the weekend lifted the yellow metal through the upper Bollinger Band (~$1586). Watch the 20-day moving average that has been offering gold support. It begins February around $1563.65. As gold has not closed below the 20-day moving average since early December, a convincing break would suggest a correction is at hand.
Oil: The price of March light sweet crude oil tumbled almost 5% to bring the four-week skid to 18% and brought the price to three-month lows (~$51 a barrel). Between the spike higher on the US-Iran confrontation to the coronavirus demand scare, the March futures contract posted an outside down month. The MACD is trending lower in the oversold territory, while the Slow Stochastic horizontal at the lows. The lower Bollinger Band is near $50.50, and the $50-level is important technical and psychological support. It probably requires a rally through $54.50 to signal a low may be in place.
US Rates: The 10-year yield has been trending lower since reaching almost 1.95% in the first session of the year. Ahead of the weekend, it tested 1.50% to flirt with the lows from early last October. Below there lies the August low near 1.42%. The March note futures contract gapped higher to start the week and came within a single tick (1/32) of closing the gap at midweek before posting another leg up. It reached 131-26 ahead of the weekend and closed above the upper Bollinger Band (131-15). The MACD is still accelerating though it is overextended, while the Slow Stochastic has begun leveling off. The next potential hurdle is the highs from last September and October a little above 132. About 2/3 of the 45 bp decline in the 10-year yield can be accounted for by shift in expectations for overnight money (fed funds). The implied yield on the December fed funds futures contract has fallen by 30 bp since the start of the year. The contract closed at an implied yield of 1.14%. The current average is 1.55%. The other part of the yield decline appears to reflect a decline in inflation expectations.
S&P 500: The S&P 500 gapped lower on Monday and attracted prices to close the gap in the middle of the week before turning lower again. The 2.1% drop on the week was the largest since August. Monday’s low tested the (38.2%) retracement target (of the rally since early December) we identified last week near 3235.6. However, the angst ahead of the weekend, despite some strong earnings reports, saw the benchmark fall to about 3214.7, a few cents above the low for the year set on January 6. The next retracement (50%) target is near 3204, and there is the bottom of an old gap (from the higher opening on December 20) that is found near 3205.5. A break opens the door to 3172.5. The MACD and Slow Stochastic suggest the down move is not over.