The U.S. Dollar index (DXF) chart has formed a “Falling star” pattern on a weekly timeframe. Keeping in mind that the Greenback has been on a steady uphill climb for the last 18-months, this downward spiral may suggest that the star is falling.
The Dollar index surged to star highs at 114.7 points from 104.5 points in August, closing last week at 112.1 points, and is now continuing down below 111 points this week. So, what’s next? The major growth drivers for the Dollar seem to be unchanged as the Federal Reserve (Fed) is expected to continue with its monetary tightening, geopolitical tensions are rising, and recession risks are on the cards, as high inflation is still in place and Europe’s economy continues to weaken. But the strengthening of the Greenback has become a thorn for other countries and central banks too. A strong U.S. Dollar raises import costs, spurs record inflation, and lowers business margins. Borrowing costs are rising as many large loans are in U.S. Dollars or are linked to the currency. All these factors are very inappropriate amid upcoming stagflation in developed countries.
The Bank of Japan was one of the first to react by intervening in the market and supporting the Yen. The Bank of England (BoE) followed the leader amid Gilts sale-offs as 10-year Gilt yields soared to 4.6% from 1.7% within the last two months. The Cable nosedived from August highs at 1.23 to all-time lows of 1.04 on September 26. This created rumours of a possible parity to the Dollar that have not been heard before.
The BoE intervened in the bond market via buying long-dated bonds linked more closely to mortgage loans and workers' pensions, in order to prevent a surge in the country's public bond yields and borrowing costs. The Pound honored the move by recovering to 1.135, while Gilt yields were down to 3.85%. The single European currency also rose to 0.99 from 0.95 against the Dollar. European Central Bank (ECB) President Christine Lagarde said the bank has to deliver more tightening to combat high inflation.
Probably a more important notion to look at is that central banks seemingly resent the Greenback’s apparent everlasting rally and seem to be willing to counteract. Rumours about coordinated attacks against the Dollar have emerged in the market and are reminiscent of what happened in 1985 when the United Kingdom, France, Germany and Japan backed by the United States itself signed the Plaza Accord to take coordinated measures to weaken the Dollar.
The market situation now is familiar to what it was back then as the Fed is not willing to strengthen the Dollar as it hampers the stock market and lowers U.S. imports. The best-case scenario, it seems is if the Fed manages to find a solution to raise interest rates to bring inflation under control but without inevitable Dollar strengthening. If other central banks manage to make the Dollar weaker this would be in favour of everybody, including the Fed.
So, a long-lasting rally of the Dollar may now slow down at least. The upward trend may be intact, but the correction of the DXY may continue this week towards 109.80-110 points, while the peak at 115 points would become a stronger resistance level.
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