Wednesday, February 02, 2011

The U.S. Dollar: A Darling or a Dud?

US Dollar Index Weighting
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Are you satisfied with your analytical approach to the currency markets?

Consider this quote from the publication Retail Radar, taken from the CitiFX Pro Forex Trader Survey 2010:

"Technical analysis is the most important tool to individual traders in making foreign exchange trading decisions...More than half (53%) of traders surveyed employ a combination of fundamental and technical strategies, with 36% saying they only use technical analysis strategy...8% saying they adhere to a strictly fundamental strategy"

So despite the importance of technical analysis, the majority of traders rely at least in part on a fundamental strategy. With this in mind, two recent junctures in the U.S. Dollar Index clearly show how that approach has failed.

First was when conventional wisdom left the dollar for dead in 2009. The U.S. debt and deficit were cited as fundamental reasons for the dollar to stay in the cellar. There was even talk about the dollar losing its status as the world's premiere reserve currency.

You could count the percentage of bulls on one hand (with fingers left over). A comment to Bloomberg by the head of the world's largest bond fund summed up the view of the majority of dollar watchers:

"The question is not whether the dollar will weaken over time, but how it will weaken."

For a time, the greenback did stay in the cellar. It was financial news when the dollar didn't drop in price on a given day.

But when dollar bearishness was near its extreme, the October 2009 Elliott Wave Financial Forecast commented:

"The depth of dollar despair cannot run much deeper. At 3 percent bulls, recent [Daily Sentiment Index] readings are lower than the lowest reading recorded near the dollar’s March 2008 bottom, which was 6 percent."

The December 2009 EWFF took an independent stand in the face of continued dollar pessimism:

"...the near-unanimous chorus of dollar bashers still indicate that a major bottom is nearby."

Indeed, the bottom arrived around the time of the above comment. The January EWFF reported:

"The U.S. Dollar finally completed its declining wave structure, making a bottom at 74.17 on November 26. The dollar’s 5.7% jump to 78.45 on December 22 carried the index back to levels last traded in August...This rally is the start of an advance..."

And the U.S. Dollar Index did advance -- climbing about 20 percent over the next several weeks. The Elliott Wave model of analysis proved accurate.

Second was the juncture which coincided with the November announcement of the second round of quantitative easing. Among other benefits, "QE2" was supposed to make U.S. exports more attractive: surely this was a strong fundamental reason to bet against the dollar.

Once again, the Daily Sentiment Index had dollar bulls at 3 percent. Once again, even in the face of overwhelming majority opinion, the November 2010 EWFF stated:

"With so many positioned for a dollar drubbing, the dollar may move fast in the opposite direction."

As we know, the dollar has climbed since QE2 was announced. The Elliott Wave model proved itself again.

So much for fundamental analysis at both major U.S. Dollar Index junctures -- we suggest the Elliott Wave model serves currency traders much better.

What is Elliott wave analysis showing us about the USD now?

Let's look at the 120-minute chart of the U.S. Dollar Index from the Elliott Wave Financial Forecast Short Term Update (1/28):

US Dollar Index

Here's what the same Short Term Update said:

"Currencies, specifically the U.S. Dollar and its near-mirror opposite the euro, appear at the forefront of significant moves..."

How does the price pattern in the chart above suggest a "significant move," and what's the likely direction of that move? Click here to get the answers via a risk-free read of EWI's Financial Forecast Service. Follow this link to begin.

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