Dollar hits a 2-year low – when will selling stop?

Dollar hits a 2-year low – when will selling stop?
Written by:
Michael Harris
27th July, 15:32
  • Dollar index (DXY) falls below $93.50, the lowest levels since September 2018
  • The last time EUR gained over 5% against the greenback in a single month happened in September 2010
  • Dollar is under severe selling pressure on massive stimulus packages rolled out to help troubled economy
  • The sellers successfully completed a bear pennant pattern, signalling that a bounce may be due soon

The US dollar has been absolutely destroyed in the last two months. Looking at charts, it seems that dollar buyers capitulated, at least in the short-term. The dollar index (DXY), which measures the value of a basket of currencies of the majority of the U.S.’s most significant trading partners, went from trading around at $100 to a 2-year low at $93.50 in two months.

Why are investors selling dollars excessively?

The dollar has found itself under severe pressure as the Federal Reserve keeps printing and injecting trillions of dollars into the embattled economy. This way, the value of a single dollar is devalued. 

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As the numbers of new COVID-19 cases surge around the globe, investors are anticipating a new round of fresh stimulus for economies. As a result, the Federal Reserve and other major central banks are expected to continue injecting huge amounts of money into economies to boost liquidity. 

“It seems like we’re seeing the dollar lose its crown. There are high expectations you’re going to see the Fed continue to signal that they’re prepared to do more at a longer run, and the U.S. economic recovery is not going to be anywhere near as smooth as what is unfolding in Europe,” said Edward Moya, senior market analyst at OANDA.

This week, the Federal Reserve this week is expected to confirm its commitment to rock bottom rates.

“I think you’re going to see a steady amount of investment and market positioning going back to Europe, and that will provide some room for much more weakness here with the U.S. dollar,” added Moya.

A huge and fast dollar selloff means that Stephen Roach, a Yale University senior fellow, was right. A month ago, Roach warned that a major selloff is coming. His projection that the greenback will lose 35% in value was based more on a long-term basis 

“The dollar is going to fall very, very sharply,” said Roach, arguing that the rise of China and the decoupling of the U.S. from its trade partners will end dollar’s global supremacy. 

Who’s benefiting from a weaker dollar?

President Trump reiterated multiple times that he would like to see a weaker dollar. In theory, a weak currency should help a country’s exports gain market share. This is because the domestic goods are less expensive compared to goods priced in stronger currencies. 

Aside from Trump, a theory says that gold and stocks should also benefit from a weaker dollar. The gold prices have certainly benefited as the yellow metal is now trading at the record highs

The dollar should help the biggest U.S. companies as they generate most sales abroad but bear most of their costs at home. Still, analysts are not sure that it will help U.S. equities prosper. 

“A weaker dollar doesn’t necessarily reflect a weak U.S. economy but reflects a stronger global economy on a relative basis,” said Jeffrey Schulze, investment strategist at ClearBridge Investments.

According to Shulze, U.S. equities are likely to underperform their global counterparts over the next six months.

“Far from being destabilizing for global markets and economy, those episodes were quite positive for growth”. 

Still, many analysts expect the U.S. equities to gain on a weaker dollar. 

“Do not, in other words, worry that a weaker dollar is a warning sign about a sudden turn lower for U.S. equities. History testifies to the contrary,” said Nicholas Colas, co-founder of DataTrek Research.

EUR/USD is trading nearly 5% higher in July as the buyers attack September 2018 highs located above $1.18. The last time that the eurozone’s common currency gained over 5% against the greenback in a single month happened in September 2010. 

Earlier this month, Invezz outlined how EUR/USD could go to $1.19 this year. 

When will the selling stop?

It seems that nearly all investors have been invited to a “sell the dollar” party. The bloodbath continues as the dollar index keeps printing lower levels. Last week, the index recorded the worst week since the mid-March and coronavirus-related selloff. 

During the downtrend, the dollar created a bear pennant which is a continuation chart pattern that helps sellers extend the downtrend. This pattern has been activated with a breka of the pennant 3 weeks ago and we have completed it now. 

Dollar index (DXY) daily chart (TradingView)

Hence, the dollar sellers should be careful now. The bears have got what they wanted – a major move lower that will hurt the dollar in the long-term. Many ranges are now broken, hence we are trading in a breakout market. 

We’d be careful selling here as $93.50 marks the completion of a bear pennant chart pattern. We may see a bounce to at least $94.65, which is the former 2020 low and now resistance. In case the market continues lower, $93.20 is the next stop.

Summary

The U.S. dollar is getting sold aggressively on massive stimulus packages rolled out around the world. The Federal Reserve is expected to keep its interest rates at the lows, inviting more selling pressure on the dollar. The dollar index hit a fresh 2-year low today, although the completion of a bear pennant pattern signals a bounce may be due soon. 

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