Dollar at Crossroads

The US dollar is at crossroads. It has retraced part of its recent rally that was ostensibly fueled by rising US interest rates and increased confidence of a rate hike in December.  The dollar's correction began prior to the latest turn in the presidential campaign, but it has been accelerated by the polls that show the race has tightened.  Roughly speaking, the odds of a Trump presidency doubled over the past week to stand near 25% -35%.  

What happens at the technical crossroads will be determined not by economic data but political developments.  Our bullish outlook for the dollar is partly predicated on the continuation of the status quo broadly understood.  A Trump victory could potentially unhinge investors to such an extent that it disrupts the markets profoundly and through that impact the Fed's decision in December.  

The US Dollar Index fell about 1.2% last week after falling 0.35% the previous week, snapping a three-week 3.25% rally.  At 97.10 it retraced 50% of the rally from late September.  The 61.8% retracement is near 96.60, which corresponds to the 50-day moving average.     If that 96.60 area is given, a move back to 95.00 cannot be ruled out.  That said, the uptrend line that connects the June, August, and September lows intersects near 95.80 next Friday. 

The euro has bounced 2.75 cents since testing $1.0850 October 25.   It has risen in the last four sessions and seven of the last nine.  The technical indicators we look at do not rule out additional near-term gains.   It has stalled in front of a band of resistance found between $1.1130 and $1.1150.  Above there is the $1.12 congestion area that also corresponds to a downtrend line from the August and September highs.   A break of $1.1040 is notable, but it may take a violation of the $1.0980-$1.1000 area to boost confidence that near-term high is in place.  On a knee-jerk response to a Trump victory, we suspect the euro could initially rally into the $1.14-$1.5 area.  

The US dollar has fallen three yen against the Japanese currency since reaching a three-month high near JPY105.50 on October 28.   The greenback's retreat retraced more than 50% of its rally from the last September test on the JPY100.  However, the dollar was unable to close below that retracement (~JPY102.80), which corresponds to the lower Bollinger Band and the 100- and 200-day moving averages.  It stopped shy of the 61.8% retracement near JPY102.20.  

The technical indicators are mixed, with the RSI curling up and the MACDs turning down from elevated levels.  The Slow Stochastics show a bearish dollar divergence.  A Trump victory could push the dollar below JPY100.  The Brexit low was near JPY99.00.  The JPY95 area is the 61.8% of the Abenomics rally.  There is the longstanding objective of the head and shoulders pattern carved out last year on the weekly charts near JPY92.00.  

Sterling's 2.75% appreciation was the largest weekly advance since 2009.  The main driver was not US politics,  but the combination of the High Court ruling requiring Parliament vote on Brexit before Article 50 can be triggered and a shift in the Bank of England's stance (now neutral) and upward revisions to its growth and inflation forecasts for 2017.   Sterling's technical tone has improved as it has strung together a six-day advancing streak, matching the longest rally of the year.  Our next target is in the $1.2625-$1.2650 area.  On a Trump victory, sterling could rally toward $1.2750-$1.2800, and possibly toward $1.30.  

The Australian dollar has been blocked near $0.7700 for the better part of the past four months.  The central bank has signaled a shift toward a more neutral stance.  A Trump victory would allow the Aussie to overcome this resistance and move toward $7800-$0.7850.  Support is seen near $0.7600.  

The US dollar rose to its best level against the Canadian dollar since March before the weekend seemingly on the divergence in the economic data and the initial drop in oil prices below $44.  There seems to be limited scope for additional near-term US dollar gains.  The MACDs are about to turn, and the RSI did not confirm the new highs.  The Slow Stochastics are set to rollover as well.  

Oil was shellacked last week with more than  9% drop.  The heavier dollar was insufficient to offset the poor technicals, record jump in US inventories, and increasing doubts about OPEC efforts to rein in supply.  The December futures contract declined by the most since January.  The two-week nearly 14% decline brought the price to almost $43.50, a nearly three-month low.  There is little chart support between $43.30 and $42.00.   There is scope for additional declines, but we are becoming more cautious after having anticipated the decline in mid-October when prices were still near $50 a barrel.   The drop has pushed prices below the lower Bollinger Band ($44.55), and the Slow Stochastics warn of downside scope at this juncture.  

The US 10-year yield fell below the 20-day moving average (1.78%) for the first time in a month.  It peaked at the start of last week near 1.88%.  There is some congestion in at slightly lower yield levels.  A move below 1.70% would be seen as significant.  The December note futures finished the week on its highs.  Immediate resistance is seen in the 130-15 and then 130-24 to 131-00.   A Trump victory would likely see a knee-jerk rally.  Concern about a major disruption in the market to such an electoral outcome could also make participants considerably less confident of a December rate hike.   

Despite being up most of the session, the S&P 500 tumbled in the last couple of hours of activity before the weekend and extended its losing streak to nine consecutive sessions, the longs in more than a quarter of a century.     It initially had recovered from making new three-month lows at the open at the 200-day moving average (~2083), but was unable to take out the previous day's high near 2102 and sellers pounced late  The five-day average is near 2104.5, and the S&P 500 has not closed above it since October 24.

The S&P 500 closed below the lower Bollinger Band for four consecutive sessions.  This extreme seems unprecedented (in modern times). The other technical indicators are stretched but haven't turned.  Cognizant that sometimes the Bollinger Band moves toward prices rather than the other way around, we are inclined to look for a potentially strong bounce in the S&P 500 barring a Trump victory, which is not the most likely scenario.  On the other hand, the election of may scare investors, and this fear could fuel move that completes the retracement of this year's rally from the February low near 1810.   The 50% and 61.8% retracements are found near 2002 and 1957 respectively.  

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