US Dollar - Big Picture View

I've been posting my main USD chart regularly this year, and have been describing it as my big picture chart, but it is only the big picture in the context of the much shorter term charts that I generally post. It is a 30 month daily chart, and for those of you not familiar with it the main points to note are:

1. The falling wedge target at 88.71
2. The rising channel that has formed since the May 2012 low.
3. The possible IHS forming that would currently be more than halfway through the right shoulder.
4. The shorter term declining channel that has formed since the January 2012 high. That's worth noting as a break over it will most likely indicate that USD will have bottomed for 2012.

That is the immediate picture for USD and obviously, it looks bullish, with the caveat that USD has not yet hit the obvious rising channel support target, currently in the 78 area. It may not hit channel support however, and in any case, if the IHS completes and plays out, I would expect the rising channel to break upwards as that happened:

The next chart however is my real USD big picture chart, and it is the monthly 32 year chart from 1980. As you can see on this chart, trends in USD tend to take several years to play out, and the bottoming periods can last a decade or so. You can see that USD tends to trend well over these periods, with the exception being the steep decline after the Plaza Accord agreement in 1985 to devalue the dollar which resulted in a very steep decline in USD from the 1985 peak at 164.72 to the 1987 low at 85.42. There are some other things to note about this chart:

1. USD and equities have not always been inversely correlated and have spent very long periods in the past positively correlated. Overall USD and equities were mostly positively correlated from 1980 to 1985, and then from early 1987 to 2001. Negative correlation between USD and equities since 2001 coincides with the Fed loosening of monetary policy then in the wake of the tech bubble crash, and that timing most likely isn't a coincidence. That current inverse correlation could flip back at any time in the future. It's also worth noting that the inverse correlation was strongest in the period 2001-9, when the US was running an unusually  lax monetary policy by international standards. Since then much of the developed world has increasingly copied US monetary policies and the inverse correlation is visibly much weaker now.

2. The current period from 2004 to the present on USD looks remarkably similar to the 1987- 1996 period, and the 1987-1996 period was a bottoming period for USD prior to a rise of over 50% between the 1992 low and the 2001 high. Then as now the overall picture was of a double bottom, which in the current case would target the 105 area on a break over 88.71. The 105 area is a significant support and resistance area with significant highs there in 1989 and 1999, and significant lows in 1986 and 2002. In the event that USD were to break over declining resistance from 1985, currently in the 93 area, then 105 would be the double-bottom target. The target for the earlier double-bottom was made and slightly exceeded.

3. The current IHS that has mostly formed now has a target at 92, slightly below declining resistance from 1985 in the 93 area, and given that this declining resistance trendline is falling at slightly over 2 points per year, may well be at or over that trendline by the time USD gets there.

Here it is on the USD monthly chart since 1980:

This long scenario on USD is technically compelling. Can it play out with the current management at the Fed? I think it can, and the reason for that is that in the beauty contest of international currencies USD doesn't have to look attractive to go up, it just has to look less ugly than the competition. Who then are the competition?

55% of the USD index is the Euro, and interest rates there have also been cut to almost nothing, with the ECB pursuing QE with an enthusiasm born of increasing desperation. The practical terms insolvency of much of the Euro area is also a big strike against the Euro, with major sovereign debt problems still brewing in Spain, Portugal, Italy, and to a lesser extent in Ireland and France. Anyone wondering why I've included France should consider the rating downgrade this year, and then check out the looking-glass world of the French presidential election, which is breaking new ground in idiotically suicidal policy pledges on both sides.

Another 7% of the USD index is GBP, with substantial debt problems in the UK, a budget deficit running at over 10% of GDP, QE to date running at about a third of total government debt, and an austerity plan to try and bring the budget into balance that is likely to significantly depress the economy.

That's 62% of the USD index, almost two thirds, so the question is mainly whether USD can look attractive next to these two seriously ugly currencies. Definitely, so there is a strong fundamental case supporting a major dollar rally from here as well as a strong technical case.

Lastly I'll say a few words about the prospects for equities next week as something to consider over the weekend. Firstly the technical picture looks dire, the close was very weak, with a strong decline weekly candlestick of a kind that has rarely preceded a strongly positive week in recent years, though it has often preceded flat (and volatile) weeks as well as further declining weeks. The rising channel on the SPX 15min chart I posted this morning broke downwards, then retested and broke down further. There is an excellent argument that the rally from the low this week was a large bear flag with the flag target at 1312, though with only a 47% chance of hitting that target. The IHS I was looking at yesterday morning was in trouble soon afterwards, and was a write-off at the close. Here's the setup on the SPX 15min chart:

Against that the stats for next week are positive, with particularly strong stats for Monday, which as Tax Deadline day has only closed down on Dow 5 times since 1981, and as the Monday of April Opex, is up 15 of the last 22 times. Stats from Cobra's excellent writeup last night. We'll have to see how the futures look on Monday morning. Everyone have a great weekend! :-)