The U.S. Dollar Index has been eating its Wheaties, is itching for a fight, and it’s got solid fundamentals backing it up. It doesn’t look good for the metals.
While the USD Index has come under pressure in recent days, the dollar basket’s fundamentals are actually stronger now than they were during the September rally. On top of that, after the USD Index ended the week above its August daily closing high, the greenback’s technical breakout to new 2021 highs still remains intact.
More importantly, though, the recent price action mirrors what we witnessed back in early August. To explain, following its sharp summertime rally, the USD Index moved close to its 50-day moving average without reaching it. And after buyers stepped in, the USD Index resumed its uptrend and made a new 2021 high. Moreover, with a similar pattern and a similar reading on the USD Index’s RSI (Relative Strength Index) present today, the greenback’s uptrend should resume sooner rather than later. I marked both cases with red, vertical, dashed lines.
On the flip side, after gold, silver and mining stocks’ upswings concluded once the USD Index bottomed close to its 50-day moving average in August, sharp drawdowns followed. As a result, the precious metals’ current upswing is likely to suffer a similar fate.
Please see below:
The middle part of the above chart features gold and silver and you can clearly see that the final pre-slide top in early August materialized when gold and silver reversed profoundly on an intraday basis. The same thing happened on Friday, and the implications are clearly bearish.
Equally bullish for the greenback, the Euro Index remains overvalued and should suffer a material drawdown over the medium term. For example, while the index closed above its late 2020 lows, it couldn’t recapture its August 2021 lows. Thus, the next temporary stop could be ~1.1500 (the March 2020 highs, then likely lower). For context, the EUR/USD accounts for nearly 58% of the movement of the USD Index, and that’s why the euro’s behavior is so important.
Please see below:
Adding to our confidence (don’t get me wrong, there are no certainties in any market; it’s just that the bullish narrative for the USDX is even more bullish in my view), the USD Index often sizzles in the summer sun and major USDX rallies often start during the middle of the year. Summertime spikes have been mainstays on the USD Index’s historical record and in 2004, 2005, 2008, 2011, 2014 and 2018 a retest of the lows (or close to them) occurred before the USD Index began its upward flights (which is exactly what’s happened this time around).
Furthermore, profound rallies (marked by the red vertical dashed lines below) followed in 2008, 2011 and 2014. With the current situation mirroring the latter, a small consolidation on the long-term chart is exactly what occurred before the USD Index surged in 2014. Likewise, the USD Index recently bottomed near its 50-week moving average; an identical development occurred in 2014. More importantly, though, with bottoms in the precious metals market often occurring when gold trades in unison with the USD Index (after ceasing to respond to the USD’s rallies with declines), we’re still far away from that milestone in terms of both price and duration.
Moreover, as the journey unfolds, the bullish signals from 2014 have resurfaced once again. For example, the USD Index’s RSI is hovering near a similar level (marked with red ellipses), and back then, a corrective downswing also occurred at the previous highs. More importantly, though, the short-term weakness was followed by a profound rally in 2014, and many technical and fundamental indicators signal that another reenactment could be forthcoming.
Please see below:
Just as the USD Index took a breather before its massive rally in 2014, it seems that we saw the same recently. This means that predicting higher gold prices (or the ones of silver) here is likely not a good idea.
Continuing the theme, the eye in the sky doesn’t lie. And with the USDX’s long-term breakout clearly visible, the wind still remains at the dollar’s back.
Please see below:
The bottom line?
As the drama unfolds, the ~98 target is likely to be reached over the medium term, and the USDX will likely exceed 100 at some point over the medium or long term. Keep in mind though: we’re not bullish on the greenback because of the U.S.’ absolute outperformance. It’s because the region is fundamentally outperforming the Eurozone, the EUR/USD accounts for nearly 58% of the movement of the USD Index, and the relative performance is what really matters.
In conclusion, while the USD Index has pulled back from its recent highs, Fed Chairman Jerome Powell effectively announced on Oct. 22 that the central bank will taper its asset purchases in November/December. And with bullish reinforcements also gathering near the USD Index’s 50-day moving average, the greenback’s medium-term fundamentals and technicals remains robust. And with gold, silver and mining stocks often moving inversely to the U.S. dollar, their performance is likely to suffer if/once the USD Index resumes its ascent.