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#1 05-04-2021 09:33:52

Admin & Trader
From: Paris - France
Registered: 21-12-2009
Posts: 3050

EUR/USD: has the Dollar Index reached its lowest point?

EUR/USD: has the Dollar Index reached its lowest point?

Following last year's virus situation, central banks and governments around the world reacted swiftly and implemented huge monetary, respectively fiscal, stimulus packages. Financial markets were literally flooded with cheap money as interest rates were instantly reduced to zero.

The US dollar fell last year because of the Fed's extreme easing. A weaker dollar led to a rise in equities, which in turn supported optimism about a possible recovery.

The fall in the dollar triggered inflation fears. Many prominent voices in the investment community have called for caution and warned investors of the impending depreciation of the dollar. Yet, if one checks the facts, the dollar's share of international foreign reserves increased, not decreased, during the pandemic. Its role as the world's dominant reserve currency has thus been reinforced.

One of the most interesting technical analysis theories uses market cycles to discover peaks or troughs - the general market reversal. A close look at the last two decades and the performance of the Dollar Index (DXY) tells us that there is a 39 month cycle that corresponds to a marginal low in the DXY.

Rising yields favour a stronger currency

The rebound in the DXY is even more interesting if we look at its weightings - the largest share belongs to the EUR, with about half the weight, and then the rest is split between the JPY, GBP, CAD, SEK and CHF.

This year started with a surprising rise in US 10-year Treasury yields. More surprisingly, the Fed did nothing to intervene and let the market do its job. The Fed's decision stands in stark contrast to what the Reserve Bank of Australia (RBA) did, which when it saw yields rising, intervened drastically to bring them down to near zero.

Rising yields reflect optimism about the economic recovery. Artificially depressing them will only force market participants to look for other sources of return.

A quick analysis of long-term historical rates in the US reveals the fact that we are at historically low levels. The chart above stops 9 years ago, but we all know what followed - after 2012 and QE2, the Fed raised short-term interest rates only to reduce them to zero and restart bond buying once the pandemic arrived. As a result, long-term real rates fell even further.

Therefore, the current rise in yields is nothing compared to historical rates. Yet, for some reason, even this tentative rise, which has allowed the DXY to rebound of late, raises fears of an unwanted tightening in the US and other countries.

The rest of this year will certainly be interesting to watch for US real rates and the DXY. It seems that investors have forgotten that yields can rise much higher than they are currently doing.

"Anything worth having is worth going for - all the way." - J.R. Ewing



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