What’s Up With the Buck?

by JC Parets  -  April 19, 2019

A big theme for me this year has been the U.S. dollar and how it will impact stocks as an asset class.

The thought process coming into 2019 was simple. The dollar had rallied throughout 2018 to reach some pretty critical levels. The idea was that if it was going to rip right through there, it was more than likely happening in an environment where investors would be fleeing to safety. That’s the type of market where stocks are selling off.

The opposite of that argument was that if the dollar wasn’t breaking out, stocks would likely be doing well, both in the U.S. and, more importantly, globally.

Fast forward to today, almost a third of the way through the year, and stocks have performed very well. In fact, as Piper Jaffray’s Craig Johnson mentioned in this week’s episode of Technical Analysis Radio, stocks have had an incredible entire year already, just a few months in…

But look what the U.S. Dollar Index has done during this period: nothing.

Year-to-date trading history for the U.S. Dollar Index

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The dollar remaining below key resistance has been a positive for stocks. That was the higher-probability case coming into the year. But that doesn’t mean things have changed. I think now more than ever we need to monitor what’s going on with the dollar. The data coming in the past few months has only validated our original thesis. I don’t think now is the time to abandon it.

That key level we’ve been watching since the end of 2018 is the 61.8% retracement of the entire 2017-18 decline. This was just after the brilliant editors over at The Economist put “George Washington on steroids” on the magazine’s cover.

I still laugh about that. The dollar immediately started its collapse after that issue was released.

Off that bottom early last year, the dollar rallied, and stocks struggled, particularly around the world outside of the U.S. This sideways range throughout 2019 has contributed to strength in stocks, again, especially in emerging markets.

So, does the dollar roll over here? Do stocks continue to catch a bid? Will emerging markets keep on outperforming?

Three-year trading history for the U.S. Dollar Index, detailing the “bearish” thesis

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Or, is it that the more times a level is tested, the higher the likelihood that it breaks? In this case, dollar strength would most likely coincide with weaker stocks, particularly emerging markets.

Three-year trading history for the U.S. Dollar Index, detailing the “bullish” thesis

[Click to Enlarge]

This was a big one coming into the year, and I still think it is. The weight of the evidence continues to point to a weaker dollar. But I’ll say this, a sideways dollar has helped stocks. So, remaining in this range is fine, too.

Ultimately, we’re going to see a resolution, whether higher or lower. My bet is “higher stock prices and a lower U.S. dollar.”

What’s your theory? Lower dollar? Higher dollar? Doesn’t matter for stocks?

To wise investing,

J.C. Parets
Editor, Big Market Trends