U.S. Dollar Index (USDX)
In economics, inflation is a rise in the general level of prices of goods and services in an economy over a period of time. The term inflation once referred to increases in the money supply (monetary inflation) ; however, economic debates about the relationship between money supply and price levels have led to its primary use today in describing price inflation.Inflation can also be described as a decline in the real value of money - a loss of purchasing power. When the general price level rises, each unit of currency buys fewer goods and services. A chief measure of price inflation is the inflation rate, which is the percentage change in a price index over time. (Source: www.wikipedia.com)
Deflation is the opposite of inflation. Therefore, under the usual contemporary definition of inflation, deflation means a decrease in the general price level. Alternatively, the term was used by the classical economists to refer to a decrease in the money supply and credit; some economists, including many Austrian school economists, still use the word in this sense. The two meanings are closely related, since a decrease in the money supply is likely to cause a decrease in the price level. (Source: www.wikipedia.com)
From the two definitions of Inflation and Deflation we understand that money is our main concern and the medium that needs to be analyzed. In this week's ADIC's TECH TALK we are analyzing the U.S. Dollar Index in different time frames.
USD Index is a measure of the value of the U.S. dollar relative to majority of its most significant trading partners. Currently the index is calculated by factoring in the exchanges of six major world currencies: the euro, Japanese yen, Canadian dollar, British pound, Swedish krona and Swiss franc. The index started in 1973 with a base of 100 and is relative to this base.
The chart above is the historical prices of U.S. dollar index between 1985 and 2008. The chart is on a monthly scale. In 1985, the index was at 155 levels. The sharp drop pushed the index towards 85 levels in 2 years. After the sharp downtrend we have seen a consolidation and choppy movements between 1989 and 1995. The consolidation was between 100 and 80 levels. The 20 and 50 period moving averages didn't cross over and generate a buy signal until 1997. Only after 1997, the dollar broke above its resistances around 92 levels and started an intermediate/long term uptrend. 1997-2002 period was positive for the U.S. dollar. The uptrend pushed the index from 92 levels to 120 levels in 5 years. However, the dollar could not sustain its uptrend and reversed sharply and broke down clear trend supports in 2002-2003 periods. The moving average cross over confirmed the downtrend. In 2005 the index was back to its historical lows at 80 levels. The rebound towards 95 levels during 2005 found resistance at the long term moving averages. The index fell sharply again this time breaking down the horizontal support at 80 levels. However, the trend reversed immediately in the second half of 2008 and pushed the index back above its long term horizontal support at 80 levels. The strong reversal pushed the U.S. dollar above its long term moving averages after 6 years. This is a positive technical signal. During any pullback the long term moving averages will be support around 80-85 range. The first resistance for the dollar index is at 93 levels. The technical outlook for the dollar is neutral/positive. We can change the technical outlook to positive if we see a moving average crossover and a break above 93 levels.
The chart analyzes the P&F buy/sell signals during the 1985-2008 periods. P&F charts are very important to visualize the support/resistance levels. The P&F chart is constructed with a box size of 2 and a reversal of 3. The first sell signal on the dollar index was at 135 in September 1985. During 1986 the consolidation between 120 and 110 was very weak and was followed by another double bottom sell signal at 108. After testing 80 levels in 1987, the first buy signal was generated at 99 levels in 1989. However the buy signal was reversed with a double bottom sell signal at 99 levels in the last quarter of 1989. After a long consolidation period, the buy signal was generated at 90 levels in 1992 and was not reversed until 2002. In 2002, the index gave a double bottom sell signal at 110. We still haven't seen a buy signal on the P&F chart. The important resistance is at 93 levels.
If we analyze the U.S. dollar index with box size of 1 and a reversal of 3, we find valuable information. We see that the 1 box P&F chart gave a buy signal at 80.50 levels. The short term resistance is at 87.15. If the index breaks above 87.15, this will be a triple top buy signal and the next target will be 92-93 range.
From the three charts above we understand that the U.S. dollar has gained strength for some reason. It is either the unwinding of capital and going into cash or severe credit conditions and the need for cash. There are plenty of reasons and explanations. The clear evidence is that the price movement in the dollar broke above some short term resistances and is headed to test its strength on the intermediate term technical levels. The U.S. dollar index is at the top of the watch list in the following months.
Assistant Vice President/Portfolio Management
Abu Dhabi Investment Company
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