Implications of a falling dollar
John J. Murphy
MAJOR DOLLAR TOP IN MAKING... We've stated in recent updates that the U.S. dollar looked toppy to us. Here's why. Chart 1 is a monthly chart of the U.S. Dollar Index showing the uptrend since 1995. Notice that the monthly MACD lines (along the top) have turned bearish. The lines along the bottom combine Directional Movement lines (red and green) with the ADX line (black). The black ADX line peaked in the middle of last year and has been dropping. That usually signals the end of a trend. Notice also that the red (bearish) line is about to cross over the green (bullish) line for the first time in three years. The weekly chart (Chart 2) show that the weekly MACD lines are bearish. Along the bottom, the red (bearish) DI line crossed over the green (bullish) line during April. The fact that the black ADX line is just turning up suggests that this is just the start of a new downtrend. Notice also that the "neckline" drawn under the reaction lows has already been broken. All are bearish indications for the greenback.

DAILY DOLLAR CHART... The daily chart shows the Dollar Index falling under both moving average lines to the lowest level in seven months. Another crucial test will come along the September lows. Any break below that previous support level would confirm that the dollar has peaked. Chart 4 shows the Euro being a mirror image of the dollar. The Euro is trading at a seven-month high and is approaching a test of last September high (which coincides with the September low in the dollar). That will be a crucial test for both the Euro and the dollar. Although not shown here, the Japanese yen has broken through its March high to reach the highest level in six months. Other strong currencies are the Australian and Canadian dollars. If the dollar is indeed peaking, that carries implications for other financial markets.

IMPACT OF FALLING DOLLAR... A falling dollar would probably be bullish for commodity markets, which have already bottomed. That in turn would result in higher interest rates, which have also bottomed. That would be bullish for commodities, but bearish for bonds. A weaker dollar could also be bearish for U.S. stocks, because a weak currency discourages foreign investment in the U.S. Global money tends to flow toward those countries with the strongest currencies -- which won't be the U.S. This may be first time in several years that overseas markets may start to do better than the states. Japan, for example, appears to have bottomed. The green relative strength line (vs. the S&P 500) shows Japanese outperformance for the first time in years. A stronger yen should also help attract foreign money. The sun isn't the only thing rising in Japan.

FALLING DOLLAR IS BULLISH FOR GOLD... Historically, the primary beneficialy of a falling dollar is the gold market -- and gold shares. There is usually an inverse relationship between the dollar and gold -- as shown in the next two charts (spanning three years). And since gold stocks usually rise faster than the price of bullion -- gold shares remain our favorite play.

XAU STILL CLIMBING... Gold stocks continue to shine. Another strong day today pushed the XAU Index to the highest level in more than two years. The XAU is nearing a challenge of its October 1999 highs. Newmont Mining is one of the biggest gold stocks in the XAU. The last (monthly) chart shows NEM trading at a new four-year high -- closing over its 1999 peak at 30. That's a good sign for the stock and the group.


June 4, 2002

John J. Murphy, CNBC-TV's technical analyst for many years, and Greg Morris offer money managment and market services at MURPHYMORRIS.COM , email address orders@murphymorris.com.