Currencies: Comparing Dollar's Rally To 2008

Boy... is the US Dollar a weak currency! We are starring at the potential crisis, which most likely will not be averted by the European Union and yet the US Dollar is failing to benefit in any dramatic way, shape or form - when compared to its super rally in 2008. Potentially, there could be more safe haven buying and more strength to come when things get out of control in the EU - I admit that, but all in all, this is all quite temporary in my opinion. We are looking at a short to medium term point of view, but my stance on the Dollar is still very very very negative from the long term perspective. The currency is toast!

What is interesting to see is that we had quite a similar base formation in early 2008, as we did this year (chart below). Prices bottomed into August, where the Dollar started a massive short squeeze rally. At the same time commodities and equities collapsed as Lehman Brothers went bust. From the technical point of view, the Dollar Index never closed below the 50 Day moving average, nor did it flirt with the 200 Day moving average either. This showed desperate demand during the time of crisis, where investors did not bother waiting for lower prices. They needed Dollars at any price and they bought them pushing the index higher and higher.

The situation has changed dramatically since than. While the Dollar Index formed a same type of a base during mid 2011 and started to stage a rally in August once again, that rally has already lost half of its gains. From a technical point of view, the Dollar Index has recently broken its 50 Day moving average as well as started flirting with its 200 Day moving average. That is not a sign of strong demand, at least currently.

Now, before majority assume I am just plain bearish on the Dollar right now, I would like to point out that I remain long Dollars against some of the global currencies like Singapore Dollar, Czech Krona and European Euro - however these positions are very small fractions of my overall portfolio.

I would also like to add that the Congress is considering reducing taxes on repatriation of corporate profits by US companies. If this was to pass as a bill of law, I am sure it would help the US Dollar stage somewhat more of a rally, where capital flows back home to United States. This could create more of an uptrend, compared to the temporary short squeeze that we witnessed last month.

Over the short term, the Dollar is now at cross roads. The previous resistance which was at around 76 on the US Dollar Index (DXY), should now be acting as support - like it did in early September. At the same time, the 200 Day moving average also happens to be at the same point as well. These two supports now increase a probability that the US Dollar will stage at least some form of a bounce. If this happens, all eyes (including my own) will be watching to see how sustainable this bounce will be and if we can move towards a new high above 80 on the index. A failed rally and a break below 200 Day moving average will lead to renewed selling pressure. We have shaken off overwhelming bullish sentiment we saw in early October, so there is now more room to rally. All we have to do is wait and see...

Having said everything, it seems that global investors today are much smarter than in 2008 - especially the Asian ones, as they continue to accumulate Euros. They aren't just fleeing into the Dollar at any price as they seem to understand the US has even bigger problems than Europe. While the Dollar and the Euro might still be in a pull and push relationship as they are both sick currencies since the late 2007, any slowdown in the economy will bring about more money printing by the glorious Federal Reserve in the form of QE3. This will be a Dollar killer, as the next program will likely be in trillions and trillions. At that point, the question is how far lower will the US Dollar go?

On the other hand, if... and its a big if, General Bernanke does not expand Feds balance sheet anytime soon, while central banks around the world cut rates and the EU starts its own version of QE, than the Dollar might be in a temporary bull market for awhile longer. The chart above shows how the US Dollar rally starts before global central banks rate differential to the Fed narrows. In other words US Dollar tends to discount easing moves ahead of time. We are now at important cross road and it will be interesting to see what happens, as US Dollar strength has many implications for other assets like equities and commodities.