FED MINUTES WEAKEN DOLLAR -- THAT'S GOOD FOR GOLD AND FOREIGN MARKETS
DOLLAR WEEKLY CHART LOOKS TOPPY ... In writing about the drop in the U.S. dollar yesterday I mentioned that its weekly chart also looked toppy. I was referring to the chart that I showed back in mid-December accompanied by the headline: "Record Trade Deficit Weakens Dollar at Major Resistance Barrier" (December 14, 2005). Chart 1 is an updated version of that December chart and it looks even weaker. The most obvious point is that the US Dollar Index (USD) is backing off from major chart resistance formed last spring just above 92. That's a logical spot to expect some dollar selling to materialize. And it has. The 9-week RSI line is threatening the 50-day line after forming a "negative divergence" near 70 during the fourth quarter (blue arrow). The weekly MACD lines have also turned negative after forming a "double top" late last year (red arrow). Both indicators appear to be confirming the view that the dollar rally that started a year ago is peaking. I also suggested a month ago that the dollar could decline to the 84-86 region. I still believe that.
Chart 1
DOLLAR BREAKS 2005 SUPPORT LINE... Back in December a record trade deficit started to hurt the dollar. Yesterday it was the December Fed minutes hinting at an end to the climb in short-term U.S. rates. It was the Fed's tightening campaign that had supported the dollar all last year. It came as no surprise then to see the dollar fall on that report. The dollar had the biggest one-day drop in months. A sharp rally in the Euro and other foreign currencies today has pushed the USD to a new two-month low. That puts it on track to threaten its 200-day moving average. Chart 3 shows it already breaking an important support line.
Chart 2
Chart 3
DOLLAR INDEX IS BREAKING 2005 SUPPORT LINE ... The daily bars in Chart 3 show the USD breaking a rising support line (green line) drawn under the March/September 2005 lows. Assuming it also breaks its 200-day line (which I believe it will), that would increase the odds for an eventual drop to the September 2005 low near 86. I've written before that there are at least two side-effects of a falling dollar. One is higher commodity prices and gold in particular. Gold jumped sharply yesterday. The other is stronger foreign markets.
FOREIGN MARKETS JUMP ON FALLING DOLLAR ... A weaker dollar does two things to global money flows. It encourages foreign investment by American investors and it discourages American investment by foreign investors. Most foreign markets outperformed the U.S. during 2005 despite a rising dollar. As the dollar has fallen during the first two days of the new year, however, foreign markets have accelerated to the upside. That's especially noticeable in foreign ETFs which benefit both from rising foreign stock markets and rising foreign currencies. Yesterday's gains in the U.S. market were overshadowed by 2-3% gains in foreign stock ETFs. Compared to more subdued gains in the U.S. market today, foreign ETFs with gains of more than 1% include Australia, Brazil, France, Germany, Hong Kong, Japan, Mexico, and Switzerland. The explosive move in foreign markets is captured in Chart 4 which plots the EAFE Index iShares. [EAFE stands for Europe Australia and the Far East]. The EFA exploded to new multi-year highs yesterday and is climbing again today. The EFA/S&P ratio along the bottom of Chart 4 has broken out to a new high. That suggests to me that not only are foreign stock markets continuing to do better than the U.S., but (unlike 2005) a falling dollar in 2006 may accelerate money flows to foreign stocks.
Chart 4
