Summary

The dollar’s technical tone is soft, suggesting the downside correction that began in mid-August may not be over.

S&P 500 and NASDAQ closed at record highs. The technical condition suggests a near-term high is not in place.

US 10-year yields finished near 2.80%. Is the pain threshold for the bears far off?

As the US dollar appeared to break higher, we noted that it was overextended. Against most of the major currencies, it was beyond its Bollinger Bands, set at two standard deviations around the 20-day moving average. The correction that began mid-August does not appear over, implying a heavier technical bias for the dollar in the days ahead.

It looks as if the first part of the dollar’s downside correction is complete and now the second leg lower appears to have begun. The Dollar Index met the small head and shoulders objective near 95.00. It bounced back toward 95.70, the minimum 38.2% retracement of the push lower from the August 15 high. Provided that area holds, the downside risk extends to 94.60 initially and maybe 94.00.

Ahead of the weekend, the euro rose to its best level since August 2.Explanations that seek to attribute the euro’s rise, Trump’s offer to buy Italian bonds, or Powell’s comments seem like post-hoc rationalizing. The euro has closed higher for seven of the past eight sessions. The technical indicators warn of additional euro gains in the near-term. The $1.1700 area and, possibly, $1.1750 seem like reasonable short-term targets.

The euro may have traced out a head and shoulders bottom. The euro finished the week near the neckline ($1.1625). If it is valid, the measuring objective would be near $1.1950. That is in between the 50% retracement of this year’s decline ($1.1880) and the 61.8% retracement ($1.2025). The weekly technical indicators are turning higher and seem broadly consistent with the chart pattern. Still, with the near-record cost of carrying a short dollar position, momentum traders will exit on any sign the rally is faltering.

The dollar reached its highest level against the Japanese yen since August 6 ahead of the weekend before reversing lower to leave a possible shooting star candlestick in its wake. It continues to walk down the trendline drawn off the June 2015 highs and through last January and November highs. The July breakout proved to be a false break. The trendline comes at the end of the month near JPY111.10. A convincing break would point to another run at JPY113. The daily technical indicators are not clear, but the weekly readings favor dollar losses. The JPY110 area marks the lower end of the nearly two-month-old trading range.

Sterling rose 0.8% last week, and so ended a six-week slide. It is only the second weekly advance since June 8. It has carved out of a near-term shelf around $1.28, the 50% retracement of the bounce from the August 15 low by $1.2660. Last week’s high near $1.2935 may not offer much of a hurdle on the way to a more formidable ceiling in the $1.2980-1.3000. The euro finished at its highest levels against sterling since the middle of last September (~GBP0.9045). While the technical indicators favor additional gains, we caution that it closed above the Bollinger Band.

The US dollar edged lower against the Canadian dollar (~0.20%) last week. It was the seventh declining week in the past nine. Still, the greenback is in a CAD1.2960-CAD1.3160 range. It has begun saddling a six-month trendline drawn off the February, April, and early August lows. It is found near CAD1.3055 at the end of the month. The CAD1.2950 area corresponds to a 38.2% retracement of the rally off February’s lows. The 50% retracement is near CAD1.2820.

Political uncertainty caused the Australian dollar to wobble, but when the dust settled with a new prime minister, the Aussie finished the week up almost 0.2% for the first back-to-back weekly gain since early June. The downside break of the $0.7300-0.7500 range that had marked the price action from mid-June through early August has not been sustained, and the Aussie appears to have re-entered the range. The technicals warn of a test on the upper-end of the range.

The October light sweet oil futures contract rallied 4.5% last week, the most since June 2017. Trade tensions and the larger-than-expected draw were widely cited spurs. Similar to what we have seen in some of the currency pairs, the downside break in oil prices got many, including ourselves, leaning the wrong way. The futures contract rallied after testing a two-month low on August 16 (~$63.90) to briefly trading above $69 for the first time since July 13 before the weekend. The close was not particularly inspiring, but there seems to be little technically that stands in the way of a push toward the old highs north of $71.

The US 10-year note yield has eased for four consecutive weeks. The yield had firmed above 3.0% at the start of the month and finished last week near three-month lows near 2.80%. US data has been coming in below expectations, which does not seem that surprising given the four-handle on Q2 GDP (it appears vulnerable to losing that status when it is revised in the week ahead). The economy still appears to be growing above trend, it just has poor serial optics as the economy returns to a more sustainable pace and one-off factors drop out. The Sept. note futures contract is flirting with three-month highs around 120-16. Given the size of positions, a move above 121-00 could qualify as a pain trade.

The S&P 500 and NASDAQ finished at record highs. The Dow is still about three percent from the record high set in January. After successfully testing previous resistance and now support at 2,800 on August 15, the S&P 500 held above 2,850 last week. The close was strong, and we see little technical sign to encourage picking a top.

US assets have outperformed this month. The 10-year note yield has fallen 15 bp more than any other major bond market. The S&P 500 is up 2% this month. The only G7 stock market besides the US that is posting gains is Japan, and there the Nikkei is up 0.2%. Perversely this may lead to month-end dollar sales from institutional investors. Those foreign-based fund managers’ dollar portfolio increased in value, and they may feel compelled to sell the dollars to maintain a full hedge. Other fund managers who are rebalancing will have to sell the underlying assets and convert the dollars. Dollar-based fund managers who hedged the currency risk of their European and Japanese portfolio may now find themselves over-hedged and have to buy back the short foreign currency hedge. Rebalancing may also entail the purchase of the underperformers.

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