By James Helliwell, Chief Investment Strategist
What happened to all the dollar bulls?
Being on the right side of the trade throughout 2017 wasn’t by chance. Despite the consensus calling for a stronger US dollar, the checklist that Lex and I present in our monthly Trading Club meetings suggested otherwise, and our experience told us to follow this over the noise of other opinions.
Here you can see the same checklist for July. Our checklist demonstrates a systematic process that fellow hedge fund managers and traders employ to analyse markets, from which the big trading decisions are based. In this case we are going to be analysing the US dollar, but we use similar versions to analyse other major currencies, stock markets and commodities including crude oil and gold.
We score each factor +1, -1 or 0 depending on whether they are regarded as positive, negative or neutral for the coming month. The total ranges from +5 to -5, with a positive score indicating that stocks should be bought, and a negative score suggesting that you may look to sell (closing long positions or going short). Sometimes of course there will be a neutral total of 0 - which in itself can be valuable in protecting your P&L by avoiding trades when there is nothing to be done.
Country analysis. The country analysis scorecard contains a lot of information, which as professional investors we like to pore over. However, with positive and negative changes highlighted in green and red respectively, we can determine at a glance whether the US economy has improved or deteriorated. There is a mix of green and red this month, suggesting that on balance this should be scored neutral on our checklist (0).
Looking at the more notable changes on the scorecard this month, retail sales have ticked down...
…yet so has the Unemployment rate, which towards the low of the current cycle should support consumption.
The bigger focus is on the Fed Funds rate, and to what extent tighter credit conditions will impede the consumer and restrain economic activity...
…and as CPI inflation continues to roll over, it looks as though Janet Yellen and her counterparts at the Federal Reserve may have their timing wrong (once again!)
Economic surprise. Returning to the checklist, we need to determine how these data are being received vis-a-vis economist expectations using the Citi Economic Surprise Index (CESI). As you can see, we track this for each of the major countries in our weekly market report that our members receive each Monday. Focusing on the US, we can see that the last print (-72.6) is very negative with a decline of -35.1 index points contributing to this in the past month. Put simply, the data have been disappointing (-1).
When you look at this on a chart, you can see what a dramatic move has taken place. There was a clear disconnect between expectations and reality, hence the decline. As a side note, what is perhaps more concerning is that the US cycle tends to lead that of Europe and other regions, suggesting that the negative momentum may carry over to its peers...
Real interest rate. The difference between the 10-year US government bond yield and inflation is negative (-0.7). This is means that domestic US savers and foreign investors who hold dollars are growing poorer by holding cash. Whilst the US real rate is one of the least negative amongst G10 peers, in isolation this remains a negative for owning the greenback (-1).
Futures positioning. We view speculative positioning as contrarians. In this case the net position is pretty much neutral and unchanged on the previous month. Although positioning is towards a 52-week negative extreme, not all of the US dollar’s FX peers are yet at opposite bullish extremes (0).
Technical analysis. Recent momentum remains negative for the dollar trade, although it is essentially still within a range (albeit towards the bottom) which has formed over the past 2 years following the 2014 breakout. There’s little here to support a bull case for the US dollar on a technical basis.
In terms of short-term support & resistance, the dollar has failed several key levels, including 96.10 which is highlighted in the following chart. Given the oversold conditions, more aggressive technical traders may soon return, however, our investment process relies on more than technical analysis for us to enter a trade. The technical picture remains negative in our view (-1).
Overall we arrived at a total score of -3 for the US dollar as we headed in to July. Whilst this is an improvement on last month’s -4, the dollar bull consensus remains wrong-footed by the reality captured in our objective and robust trading process. Along with trading on this insight, our job is to present this in a format that is simple enough for anyone to follow using the checklist demonstrated.
By following our process you can ensure that you are on the right side of the market and prepared to take advantage of any opportunities to trade the US dollar over the coming weeks. Join us at the Academy to learn more and apply this same process to stocks, gold, crude oil and other currencies.
Have a great week!
Lex van Dam’s Trading Club provides access to our best trade ideas within FX, stocks and commodities each month and stay ahead of the action with our weekly market report. We hope you found this article interesting and insightful. For further discussion or to receive access to our monthly Trading Club meeting, join us at the Trading Club.
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