The U.S. dollar has been falling for the past few months and the dollar index (DXY)has declined over the past three weeks from a high above 83 to a recent print near 81.5. A move below the April low at 81.25 will take the index to a new two-year low.
Many traders have been watching the 80 level on this index. The dollar almost certainly will move lower in the long-term given its fundamental. However, in the short-term, they can generate short-term countertrend moves that go against a fundamentals- driven trend for longer than most expect.
The chart below shows the dollar index from April 2005. The index has declined over the past 18 months, but it has done so in a way that possibly sets up a more bullish outlook in the coming year. We can see that the index is trading in a falling wedge formation. This type of formation will ususally result in a breakout in the reverse direction. This suggests a bullish move in the dollar is possible with a break above the upper trend line.
U.S. Dollar Index 2005-2007
But I say “possibly” because sometimes these formations lead to a breakdown followed by a fast decline, and I have no way to know in advance which way it will go. However, if the US$ index does go the way I expected, i.e., higher, it should do so in an explosive manner. The support 80 level is very critical. The dollar has bounced off this level for almost 20 years, and a breakdown would send a clear signal that a whole new phase of the dollar’s decline has begun.
U.S. Dollar Index 1984-2007
With the dollar index currently trading near 81.5, it is halfway between two critical points. If the index does trade above 83, I forsee a sizable countertrend rally that ends in the 95-105 resistance area. If the index falls below 80, all bullish bets are off and we can expect more downside to take place.
I suggest readers take note of the news magazine cover story. If the news cover story of say The Economist is about a falling U.S. dollars, chances are that the turning of teh US dollars are just around the corner.