Macro Overview: Part 4: Dollar Index:

I begin each year reviewing the long term technical positions of the "Big Four." 10 Year rates, SPX, Commodities, and the US Dollar. This is the fourth of the series. The fifth and final will attempt to tie the first four together into a organized macro view. Granted, macro doesn’t typically impact shorter term (swing, daily and weekly) trading, but developing a broad framework for understanding market context and to help recognize change in the investment environment is important.

It seems that for most of my 40 year career there have been two core calls among many strategists. 1) Interest rates must go up and 2) The Dollar must go down. Neither trade/opinion has worked out.

1) Despite 40 years of policy and global payments angst, the Dollar Index remains range bound.
a. The wide macro range, 70.70 - 121.02 has contained price action over most of my trading career.
i. The market is roughly in the center of this range.
b. The more immediate range, 85.25 - 103.82 has defined trading since late 2014.
2) The 88.25 - 103.82 range is by far the most important chart feature.
a. Prices are squarely in the center of this range.
b. Moves inside the bounds of the range are noise, and while they may represent trading opportunities they mean little in macro terms.
c. Be very careful when commentators suggest that the Dollar is trending. I hear this all the time and at least in terms of macro, these adjustments mean little.
3) A monthly close outside the range would strongly suggest a major change in the fundamental backdrop.
4) I believe that volatility is more cyclical than price. Periods of low vol. set up conditions that often lead to explosive moves.
a. Note that volatility has continually made lower highs as vol. has been gradually crushed out of the market over the last 30 years.
b. A breakout of this pattern combined with a range break would suggest a disruption in the long term equilibrium and move DX from trendless to trending.
5) Dollar correlations to other assets (rates, equities and so forth) are mixed. Its been several years since I did the correlation work, but I really don't recall teasing out consistent long term tradable factors other than a weak correlation to commodities/gold. But, as a caveat, it has been years since I spent significant time and I was looking over longer periods.

Impetus for a range break could be provided by the Federal Reserve increasing rates significantly faster/slower than current expectations or faster/slower than other central banks. Externally, a flight to safety resulting from disruption in emerging markets, armed conflict in Europe, or significant new domestic fiscal stimulus are all possibilities. When thinking about the Dollar its worth remembering that currency is a relative game. It's not only the domestic economy and monetary/fiscal policy, but those factors relative to the same factors inside our largest trading partners.

Dollar Bottom Line: It’s a range trade until it ain't no more.

Good Trading:
Stewart Taylor, CMT
Chartered Market Technician

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