US Dollar: Can't stop, won't stop

The US dollar has made a remarkable turnaround over the last five months as expected monetary policies diverge amongst some of the largest central banks. Optimism has returned along with the dollar bulls as the US recovery looks more robust and the EU continues to look shaky.

The effect the US Federal Reserve has on the markets is profound and much larger than any single news item and the hints they give can send the markets into a frenzy. Friday was no different as the world’s most powerful central bankers converged on Jackson Hole, Wyoming. US Federal Reserve Chairwoman Janet Yellen’s speech was much less dovish than the market is used to, suggesting that the federal funds rate may increase sooner than the Federal Reserve Open Market Committee (FOMC) currently expects.

This comment had an immediate effect on the US dollar as the bulls bid it higher. Yellen balanced the hawkish comments by warning that there is still significant slack in the labour market, but it is recovering well. If wage growth picks up, this could lead to inflation, which the Fed will combat by raising interest rates. Yellen summed it up by saying “Monetary policy is not on a pre-set path. The Committee will be closely monitoring incoming information on the labour market and inflation in determining the appropriate stance of monetary policy.”

Clearly labour markets are a big talking point at the US Federal Reserve and this week will see US Unemployment Claims released on Thursday with Personal Income figures on Friday. Last week the Unemployment Claims figure surprised the market with 298k vs 302k expected. It has shown an encouraging trend over the course of the last five years as per the chart below.

The speech by the European Central Bank’s President Mario Draghi was a stark contrast to the speech given by the FED’s top banker. Mr Draghi said the ECB “stands ready to adjust our policy stance further” as they fight a stubbornly low inflation rate. The market now speculates the ECB will follow through and release another round of stimulus. This has helped drive the dollar index almost to a one year high and given the outlook, we could see it continue.

Looking at the dollar index on the Daily chart, it is clear that the ranging channel has now broken down with the bullish breakout, forming a new bullish channel at a very steep angle. We may see a slight pull back from the current price level after such an impulsive bullish run. The RSI is showing heavily overbought conditions, in fact the RSI reading from yesterday at 77.76 is the highest the RSI has been all year. It is likely we will see a consolidation towards the lower bullish trend line before using that as dynamic support for a movement higher.

Further support can be found at 82.468, 82.102 and 81.751 with the latter acting as solid support give the number of times it was tested as resistance on the way up. As stated above the bullish trend line will act as dynamic support and is likely to come into play at some stage as the price moves off the upper level of the channel. Resistance for a movement higher is found at 82.697 and 83.268 with the channel acting as dynamic resistance.

The US dollar index is on a strong bullish run fuelled by the prospect of the Fed raising interest rates and optimistic data. The pain being felt in the EU is aiding the dollar and the formation of the bullish channel makes this index one to watch.