The Longer Outlook in….. the US Dollar Index

• Posted by Greg Harmon
• on January 16th, 2015

The US Dollar Index ($DX_F, $UUP) is a weighted index that compares the US Dollar to 6 major currencies on a trade weighted basis. It has the heaviest weighting to the Euro at over 57%. The Japanese Yen, British Pound and Canadian Dollar make up over a third of index and then the Swedish Krona and Swiss Franc round it out with less than 8% total. It was started shortly after the Bretton Woods Accord, where the US dropped the Gold Standard for our currency, to measure the strength of the currency. It happened at the Mt Washington Hotel in New Hampshire, pictured above in 1973.

If you are a recent trader then you have noticed that the Dollar Index had been very stable after the financial crisis, until a few months ago. But a look at the monthly chart shows that there are clear cycles that it move in. Since 1995 (and maybe before) the Dollar Index has trended in 7 year cycles 3 times. First a trend higher from 81 to 120. Next a trend lower from 120 to 71, and the last one a consolidation trend, moving in a range between 72 and 87. The movement since the latest cycle has begun is to the upside, suggesting that if it is to run for 7 years there may be a massive move higher.

Looking at the chart another way, the Index not only consolidated, but the consolidation was in the form of a symmetrical triangle. This triangle going back to late 2005 was broken to the upside as the new cycle began in September 2014. The break carries a target higher of 104.50. That is quite a way to run still.

A pause at the current level would not be a shock for a few reasons. The Index finished 2014 having retraced 23.6% ( a minor Fibonacci level) of the last leg lower and at the 200 month SMA. These could entice traders to sell long positions and hold it for a bit. The current level is also about halfway to the projected move out of the triangle. Finally, the RSI on this chart is into technically overbought territory. Many moves consolidate at these points and having 4 situations line up gives it more credence.

A continuation higher from there (or without a pause) to the 104.50 target takes it quite near the 61.8% retracement of the leg lower. This is a major Fibonacci level and will have many eyes on it, so perhaps another place for a pause. If all that does not take 7 years then another leg higher to 116 or so would complete a 3 Drives pattern, and take the Index very near a full retracement of the down leg.

Of course the US Dollar Index could do something completely different. But from the price action presented this is one set of possible scenarios. What is for certain is that the US Dollar Index has changed character. It is no longer consolidating but rather it is showing strength.

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