For the US Dollar Index (DXY), 94 could prove to be critical

The US Dollar Index has been gradually trending lower this year after gaining nearly 10.79% between January 2015 and early March this year. After prices hit resistance near the highs of 100.18, the Dollar Index has been gradually trend lower and has given back nearly 5% from the gains made previously. The strong rally in the Dollar Index came as speculation started to build on the US rate hike cycle from the Federal Reserve, after the Central Bank tapered its Quantitative easing policy last year. Since then, the market focus has been that the US economy could start to see a rate hike cycle, the first in recent times especially after the Fed funds rate were stuck at historical lows of <0.25%.

While the Fed has been patient to communicate to the markets that the monetary policy would remain accommodative, it noted that the even in the event of a rate hike, the pace of the hikes would be gradual so as not to upset the market dynamics. The most anticipated, September FOMC meeting which was touted to be 'the meeting' where the Fed could decide on hiking rates failed to deliver on expectations, the markets took a stronger stance pushing the US Dollar weaker.

From a fundamental perspective, the rally in the Greenback over the year has led to falling US exports in an environment where most of the other economies were actively devaluing their currencies against the US Dollar in a bid to boost inflation. The stronger Dollar has also led to a continued slump in the commodity markets with Crude Oil, Gold and other metals and commodities taking the strongest hit.

The Federal Reserve still maintains its belief in a rate hike, but weak economic data continues to question this belief which has led almost everyone to ask if at all the Federal Reserve will be able to hike rates in 2015.

US Economic Outlook

From an economic perspective, the US economy continues to outpace any other major economy in the world. The second quarter GDP posted a strong growth of 3.9%, which is stellar considering the weak first quarter GDP performance. The US labour markets continue to grow at a steady pace with the US unemployment at 5.1%, close to the Fed’s full employment level of 5.0%. In a way, the US economy is indeed poised and one that could potentially be able to sustain a rate hike cycle, with the exception of inflation which has been a drag on the economy, not just in the US but across most of the developed economies as well. Further to the subdued inflation, the fact that most of the other economies have been actively engaged in lowering their currencies, the US Dollar remains very strong across the board leading to a wider trade deficit as imports seem to outstrip exports and one that could be damaging. In fact, we have seen evidence of this in recent months with the effects rubbing into the third quarter GDP which is expected to see a slower GDP expansion than Q2.

While the Federal Reserve continues to stand on its belief that there will be at least one rate hike in 2015, the fact remains that should the Fed fail to pull the trigger, rate hikes could very well be postponed to as far out as early Q2 2016 considering the seasonal weakness in the US during the first quarter. On the flipside, a weaker US Dollar during the process could very well help set the stage to boost not just inflation but also put the Federal Reserve in a better position to hike rates next year.

US Dollar Index - Technical Outlook

Looking to the weekly charts and taking into consideration the longer term view of the market, we notice that prices have been consolidating into a triangle pattern after the DXY hit the highs of 100.18 earlier this year. The declines off this high at 100.18, has seen a reliable support being established near the 94 level. As such, we could expect to see another test back to the 94 level of support with the big question being whether prices will be able to hold at this level of support. In the event 94 does manage to support prices, the US Dollar Index could see another attempt to the upside, albeit prices getting closer to the falling trend line connecting the highs of 100.18 and 97.95. A breakout from this falling trend line could see a renewed bullish momentum potentially take place which could see the DXY stage another rally to 100.18, which could now act as resistance.

US Dollar Index Weekly Chart Technical Analysis (Source: Tradingview.com)

To the downside, if 94 fails to support prices, the DXY could be in for a sharper decline with the next credible support coming in only at 90.18 region.

DXY – Conclusion: Given the technical and the fundamental outlook for the US Dollar Index, it would be a bit too early to say at this point on how prices will react. Traders will need to closely watch the level of 94 on the DXY and how the market reacts at this level for further clues.