Depending on who you ask, the US dollar is either on a stark rise or doomed for failure. Why is it so polarizing? More importantly, what does it really mean for the US economy as a whole?
Well, let’s start with some basics. There are two ways to view the US dollar, the first is the Dollar Index Spot ($DXY) and the second is US Dollar Index ($USDX). Both are indices that measure the United States dollar’s relative value against a basket of several currencies. The major difference is the makeup of the currencies the dollar is up against.
The other major difference is time. The USDX, also known as the Dow Jones FXCM Dollar Index, was created back in 2001, to help currency trader’s spot correlation with all US Dollar Crossovers, while the DXY was created back in 1971 when the US got off of the gold standard. Both can be used for trading and both are reliable to get a scale of where the US economy is headed. You see, as a rule of thumb, both have an inverse relationship with the economy as a whole. As the dollar gains strength, the DOW falls and as the dollar weakens, it is usually a sign the DOW is on a rise. Below, you will find a chart that illustrates this nicely.
The Dow Jones Industrial Index is in red and the USDX in in blue. As you can see, as the US dollar rose, the Dow fell. This correlation goes to the beginning of the USDX and as you can see, this can be an accurate predictor of where US economy is headed.
A Sizable Correction on the Way
With both the USDX and the DXY poised to hit levels of retracement, I see a nice extension for them, and if you follow what we’ve discussed thus far, you probably understand that this spells out a fall in the stock market. That would, in turn, correlate nicely with the FED raising interest rates.
My overall take is that with stocks at an all-time high, and the recent uptrend in the US dollar, I am bullish on the US dollar and bearish on the stock market as a whole. I am looking for a pretty decent-sized market correction, which I feel could happen in Q3-Q4 of this year.
In my opinion, that is the best time for the FED to raise rates. Why? You are probably thinking that if the economy levels off during Q2 and it stabilizes in Q3, then we will most likely see interests rates rise in late Q3 or early Q4, because it will be a time where everything would seem to be leveled off, and the economy could handle the rate hike. Another reason that this is supported is because of holiday spending and holiday employment. This is a given – people spend during the holidays. What better way to combat raising interest rates – which would cause a market dip – than with a huge Q4 spending and Q4 employment uptick during the first part of 2016? Technically speaking, the US dollar has retraced down and looks poised to rally. To me, a rate hike would be a whiplash down and then back up, especially if the rate hike comes in late Q3 or early Q4. This would indicate a market correction toward the last half of this year.
We are heading into a volatile time in the market, and that has me excited as a trader. It screams opportunity, and that is something that there can never be enough of.
James Bishop is a Forex and Stock Options expert at Market Traders Institute. For additional expert trading advice attend an upcoming webinar. RSVP here >>
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