Will Divergence Give The Dollar Another Leg Up?

The "correction within the correction" that we dubbed the pullback in the dollar that began with the January job report looks to have been completed last week.

Some of our targets, JPY104.40 (FXY) and $1.2150 in the euro (FXE), worked well, and sterling (FXB) made new highs since May 2018. The Canadian (FXC) and Australian (FXA) dollars overshot our objectives.   

The dollar-supportive divergence-meme is coming back to the fore. 

The stimulus bill is working its way through the reconciliation process, which has been utilized by the last four administrations.  The size of the fiscal shock ($900 bln in December and probably something close to $1.5 trillion now) is head and shoulders above what most other high-income countries will do.  Consider that the ballyhooed European Recovery Fund.  It is roughly the equivalent size of the US December package. The application process is underway, and the first funds are unlikely to be distributed much before midyear. 

In the first instance, this fiscal shock positive boost US economic activity and lift returns on investment. We expect it to allow the dollar to continue to recover.  However, that will be followed by the impact of the fiscal stimulus in Europe and concerns that can be bucketed as the twin-deficits.  Holding all else constant, the magnitude of the US's fiscal shock will generate growth differentials that suck in imports and cause a deterioration in the current account.   Short-term up, medium-term down. 

Dollar Index:  The sell-off seen before last weekend continued in the past week. The (61,8%) retracement of the bounce that began in early January is near 90.10.  The index carved a shelf in the 90.25-90.40 area.  A move above 91.00 would lend credence to our view.  We anticipate gains toward 92.75-93.00.  The momentum indicators are still trending lower, and a break below 89.75 would sour our outlook (UUP, UDN). 

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Read more by Marc on his site Marc to Market.

Disclaimer: Opinions expressed are solely of the author’s, based on current ...

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