Dollar Breakdown

Are you diversified?

By Frank Barbera CMT. September 8, 2009

It should not come as a huge surprise to investors to see the US Dollar break down. Over the last few months, the Bernanke Fed has been creating new dollars at a rate that would rival the Central Bank of Zimbabwe. While many in the Deflation camp point out that these Dollars are not being lent out, the increase in Dollar supply has been unprecedented, and to that end, I’m not surprised to see the greenback breaking down. For weeks, the Dollar has hovered just above support, acting poorly and unable to muster any type of concerted rally. In all of our recent writing, we have been harping on a bearish Dollar resolution for some time, and a move on the Euro above 145.00. Going back to our commentary on July 14th, we had come to the conclusion that a steady, organized decline in the US Dollar is probably the most likely outcome. Given the outcome of this weekend’s G-20 meeting which produced nothing in the way of tangible Dollar support, we see the greenback breaking down in violent fashion – now the unspoken sacrificial lamb of profligate Central Bank policies. We enunciated our strongly bearish Dollar stance in our market update dated July 14th, and then recently reiterated that view in our commentary of August 18th.

Above: the US Dollar Index plunges below 77.50 to 78.00 the key support of the December 2008 and June 2009 lows.

With today’s compelling breakdown below the June 2009 and December 2008 market lows, the odds are now steep that the Greenback is on its way toward a test of the 71 to 72 support zone going back to the major lows of April thru July 2008.

Above: US Dollar Index – GST BigMo Gauge on a strong cross-over signal.

As can be seen in the chart above, my very long term momentum gauge, the GST Dollar Index BigMo has been on a negative cross-over sell signal for the last few weeks. In my view, today’s downside break of support is adding more validity to this signal, implying that the Dollar is starting to trend on the downside. Another gauge which we are watching closely is the Welles Wilder Directional Movement Index (ADX) for the Dollar. At the moment, ADX has not yet turned up in decisive fashion, but we believe is well positioned to do so in the days directly ahead. A positive cross-over on ADX would be yet more fuel on the fire of the case for a renewed substantial decline in the Dollar getting underway.

Above: US Dollar Index (inverted- upper clip) and Wilder Directional Movement (lower)

Within the currency market, today’s decline in the Dollar has taken place across a wide range of currency values, with natural resource currencies like the Australian Dollar, New Zealand Dollar surging to new highs and the Canadian Dollar also moving strongly higher toward the high end of the range. This underscores the idea that the current move up in foreign currencies is broadly based. As an aside, and purely as a courtesy for those loyal readers, I am striving to make this week’s article a bit of a “one-stop shop” reference guide to non-Dollar alternative investments. Since there have been so many new vehicles created in recent years, I thought I would include a summary list of all foreign currency exchange trade funds: These may or may not be suitable for you as an investor, and as always, all readers are encouraged to do their own homework before making any kind of investment. That said, under the header of currency ETF’s, list is as follows: the Aussie Dollar (symbol: FXA), the Canadian Dollar (symbol FXC), and the New Zealand Dollar (symbol BNZ), the Euro (symbol: FXE), the Swiss Franc (symbol: FXF), the Mexican Peso (symbol: FXM) and British Pound (symbol: FXB), the Japanese Yen (symbol: FXY). In the case of the Euro ETF, FXE we show the chart below with arrow highlighting today’s upside breakout above the key 145.00 level. In my view, the odds are now increasing the Euro will continue to trend to the upside in the weeks ahead moving back up across the range toward the former highs in the 155 to 160 range.

In addition to a stronger Euro, it also appears that the Japanese Yen is likely to continue gaining strength against the Dollar with the Yen recently trading in the Y92 to Y97 range. In the near term, any move above 92.20 on the Yen would be super bullish and would suggest that the Yen could make a run at the major highs last seen in April 1995 at 82 to 83. That “high” looks like a “low” when seen on the chart below which plots the Yen inversely, so that a stronger Yen is depicted by the line moving ‘down’. The peak in 1995 is about mid-way in the chart and looks like a “V” bottom.

Above: long term view of spot Japanese Yen, heading for 82?

Above: Japanese Yen ETF - FXY

Turning to the FXY ETF, which tracks the YEN, we see that FXY is breaking out of a medium term declining trend line, with the next target the former highs at about 113.00. To get an approximate translation of FXY to a Yen spot rate, simply divide 1 by the value of FXY, example (1/107.69 = .009285 would be today’s value or 92.85 on the Yen). Note: over time all ETF’s tend to deviate a bit from spot rates, so the comparison is far from exact, but it can be helpful to keep an eye on the longer range charts which pre-date the existence of the ETF’s.

One area where we see huge long term appreciation potential is in the arena of smaller Asian currencies, which could be well poised to gain ground against the Dollar and a number of other currencies in the years ahead. Unfortunately, at the moment there are very few offerings for investors to utilize to take advantage of a potential rise in smaller Asian currencies.

On the downside, it must be noted that Asian currencies as a group pay virtually nothing in the way of interest and the moves in these smaller currencies can sometimes unfold at a glacial pace. In recent years, there have been one or two mutual funds started which specifically allow investors to invest in Asian currencies, but these need to be studied quite closely, as most of them have a heavy exposure to either the Yuan or the Yen, and not the broad diversification we would like to see in terms of the entire region being equally represented. In the chart below, I show the GST Unweighted Asian Currency Index, which is in a medium term uptrend and which has been consolidating for several weeks.

Above: GST Unweighted Asian Currency Index

Above: GST Unweighted Index of Asian Currencies versus the Merk Asian Currency Fund (MEAFX), a new entry in the arena of Asian Currency Funds.

For US investors, the Bottom Line message today should be a loud signal coming from the falling Dollar to make sure that your investment portfolio is adequately currency diversified. There are many ways to play a falling Dollar including investments in Precious Metals, Energy, US Multi-nationals and some of the more direct Dollar plays outlined above. The key point is to make sure that as an investor, with the Dollar coming under pressure, be sure your portfolio is not Dollar centric, as the breakdown in the Dollar implies more weakness still ahead. As always, investors need to do their homework before making any investment decision.

That’s all for now,

Frank Barbera

Contact Information

Frank Barbera CMT
Editor, Gold Stock Technician
PO Box 48072
Los Angeles, CA 90048
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