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Dollar Tumble Pauses, Will Currency and Risk Assets Recharge on Fed, COVID, Earnings

Dollar Tumble Pauses, Will Currency and Risk Assets Recharge on Fed, COVID, Earnings

2020-07-29 02:19:00
John Kicklighter, Chief Strategist
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Dollar, Gold, EURUSD, Nasdaq Talking Points:

  • Following its 7 consecutive-day slide, the DXY Dollar Index finally put in a positive close; but there is little to suggest this reprieve is a trend reversal
  • Systemic fundamental event risk lies ahead, and the connection between the coronavirus impact and recession pressure threatens to swamp global risk trends
  • While there is Hong Kong GDP and Facebook earnings on tap for Wednesday, the top of my event risk calendar is the FOMC rate decision

The Dollar’s Tumble Takes a Breather

After a remarkable 7 consecutive day decline, the DXY Dollar Index finally put in for a bullish day on a close-over-close basis. For those with a predisposition to pick tops and bottoms, this may be enough evidence to fade the benchmark currency’s painful slide these past months, but I am far from convinced. Runs like the one experienced by DXY and EURUSD are statistically relevant, but they do not necessarily signal an overindulgence to be rebalanced. From my experience, that is more a factor of volatility and pace which seem to have more of a mean reverting quality. If we were to reference the consistence and pace (8-day) for DXY, we have the reference from early June that ran further and faster than our recent tumble which wouldn’t ultimately trigger a sizable reversal.

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Chart of DXY with 20, 200-Day Mov Avgs and Consecutive Candles and 8-Day ROC (Daily)

DXY Dollar Index with Consecutive Candles and Rate of Change

Chart Created on Tradingview Platform

An important consideration around the intent to reverse such an impressive trend is the motivation that would rouse enough of the market to align its collective view in that direction. Looking at the range of high profile event risk over the next 48 hours – GDP releases, Fed rate decision, earnings – it seems there is more anticipation than active charge at the moment. Nonetheless, these important markers carry a skew in likely outcomes and anticipated market impact. For example, the outlook for growth will be cast in caution regardless of past quarter’s pace and monetary policy is increasingly stretched at its extremes. That is a recipe of support for gold as an alternative to fiat currencies – a group that is still led by the Dollar. In turn, XAUUSD would ultimately earn a new record high and its eight consecutive advance through Tuesday’s close.

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Chart of Gold with 20, 200-Day Moving Averages and Consecutive Candles and 8-Day ROC (Daily)

Chart of Gold with Consecutive Candle and Rate of Change

Chart Created on Tradingview Platform

Markets are Starting to Connect the Dots Between Fundamental Threats

While the Dollar has managed to extend its bearish trend, a general sense of anticipation has held many other benchmarks of risk appetite (S&P 500, DAX, emerging markets, USDJPY, etc) in check. That is in large part due to the anticipation of high-level event risk this week. Yet, the backdrop is not solely defined by data-centric updates. My poll asking what fundamental themes were most responsible for the Dollar’s tumble is illustrative of the split focus on risk trends. Respondents offered very small deference between leading concerns for coronavirus response, yield forecast and the long-term reserve status factors catering to the Greenback’s position. I personally believe all of these matters are interconnected. Economic strain and disadvantage is fueled by the local coronavirus outbreak which necessitates lower yields (baseline for rate of return) to sustain economic activity while also curbing the rate of expected return and long-term implied stability.

Twitter Poll: ‘Why is the Dollar Dropping?’

Twitter Poll on Dollar Driver

Poll from Twitter.com, @JohnKicklighter Handle

As far as the sharp rise in COVID cases in the US versus many of its most prolific counterparts, there is a tangible financial disadvantage that is showing up in economic data. This past session’s Conference Board consumer sentiment report suffered a notable drop in confidence with a drop from 98.3 in June to 92.6. With consumer spending accounting for an estimated 70 percent of US GDP, that is a serious concern. Further, breaking into the data, we find that some of the states hardest hit but a rise in coronavirus cases are reflecting the heaviest slide in optimism: Texas, California, Florida and Michigan. Add to that warnings by Doctor Anthony Fauci on signs of rising cases in Tennessee, Indian, Kentucky and Ohio; and national worry over the health and economic toll are reasonable. Yet, if you’re referencing EURUSD, concerns voiced by UK Prime Minister Johnson and Germany’s infectious disease authority that cases are rising in Europe seems to align neatly to the exchange rates stall this past session.

Chart of EURUSD with 20-Day and 200-Day Moving Averages (Daily)

Chart of EURUSD with 20-Day and 200-Day Moving Averages

Chart Created on Tradingview Platform

Wednesday’s Top Event Risk

Another aspect to the cycle of fundamental fallout from the pandemic is the stimulus that has been mustered to fight the economic blight. When I conducted my poll asking market participants what they believed the principal driver behind risk appetite has been these past three months, the vote heavily skewed behind the stimulus injected by the world’s largest central banks (62 percent of the vote). Zero rates and capital infusions by the world’s largest policy authorities was pushed even further these past months in response to the pandemic-derived recession we currently find ourselves. As such, this may be on of the pillars of a FOMO-led risk appetite that we have seen develop these past months.

Read Paul Robinson’s article on some of the most impressive bubbles in recent market history.

Twitter Poll of First Major Market to Break

Twitter Poll on Risk Appetite Motivators

Poll from Twitter.com, @JohnKicklighter Handle

Given the focus on stimulus, the Federal Reserve’s (FOMC) rate decision Wednesday deserves our attention. That said, the potential for it to move the needle is notably restricted. The probability of a change in either rates or the stimulus mix is fairly low. There is good reason to suspect the group to take a wait-and-see approach until it is clear on the fiscal efforts and the trajectory of the COVID cases across the nation. On the other hand, the confidence in central banks shouldn’t be underestimated. If confidence in their efficacy were to slip or worry trickle through their message, it could seriously unnerve investors that are already looking for a reason to doubt their extraordinary risk exposure.

Scenario Table for Fed Rate Decision

FOMC Policy Rate Decision Scenario Table

Table Created by John Kicklighter

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