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The U.S. Dollar has not had a walk in the park lately. Succinctly, it has been getting destroyed. Thesaurus.com would also suggest the following alternative descriptions:

Annihilated, quashed, axed, killed, butchered, mutilated, vaporized, ravaged, and/or wrecked.

For weeks upon weeks, it’s been well-known that the U.S. Dollar Index ($USDX) is the first thing on most people’s sell list. The trade has been to “sell the US Dollar, buy everything else”. So far, it’s been working wonders; however, as with most good things, the easy trade seems to be fading.

First, the U.S. Dollar Index ($USDX) is finally near its long-term trendline support. Thus, action at these levels is more complex as a break below could mean substantial selling while a bounce affects a lot of different asset classes.

Click on image for full-sized graph.

Additionally, sentiment on the U.S. Dollar is at extreme bearish levels. According to the Daily Sentiment Index (from Trade-Futures.com, but chart via TradersNarrative.com), only 3% of traders are bullish on the U.S. Dollar Index. History shows that when sentiment was at these levels, the US Dollar typically rallied in the medium-term.

Yet it is important to note that this extreme bearish sentiment has been prevalent for quite sometime, with the Dollar Index ($USDX) still falling off a cliff. The catch though is that the U.S. dollar is now at a major support. It has a defined place to rebound and gain upward traction. Until now, the Index had no strong technical level to challenge.

Another thing to note is the bearish weekly closings of the EURUSD and GBPUSD on October 15th;  the two pairs managed to somehow close below the key levels of 1.40 and 1.60, respectively. Overall, their bullish bias was put on hold and rang some bells for some U.S. Dollar strength.

Longs in the U.S. Dollar must still be done with caution. The strong downtrend and extreme bearish sentiment comes from somewhere: Quantitative Easing Part Deux. Thus, more-than-expected easing from the Federal Reserve could send the U.S Dollar Index ($USDX) to 74.00 and below without thinking twice about sentiment.

The key lies in watching market reaction. For the past weeks, QE2 and related comments have led to automatic selling of the $USDX. If the market reaction starts to get mild on more material QE news, it will be a sign that the tides are changing. A good example is the downgrades on European sovereigns. At first, the Euro was selling like there was no tomorrow. Then, downgrades were disregarded and the rally from 1.18 was on fire no matter what downgrade was given.

Currently, the $USDX is selling on any QE matters. However, the trendline support combined with the bearish sentiment suggests upside in the next few weeks.

Lastly, remember that U.S. equities do not have to retrace due to U.S. Dollar strength. As late 2009 showed everyone, rallies in both the Dollar and equities can exist in harmony.


The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.

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