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Dollar Higher on Supportive Central Banks

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May 20, 2013 By: , No Comments

The US Dollar saw a massive rally this week against most of its major trading counterparts, propelled largely by the differences seen in central bank policies.  Macro data was also supportive of the dollar, as consumer confidence and leading indicators numbers gave some support to the broader picture and helped confirm that the economic recovery iscontinuing at its expected pace.  On the whole, this led to the biggest weekly rally in the Dollar in 18 months and this has brought the Dollar Index to its highest levels in nearly 3 years.  Adding to the positive momentum was the decline in gold.  The yellow metal is priced in Dollars and this creates a negative correlation that causes one to rise while the other falls.

Helping bring buyers back into the US Dollar is the fact that markets are now starting to price in the possibility that the US Federal Reserve is ready to start signalling an end to its third round of quantitative easing stimulus.  This puts the country in stark contrast with the other major economies, which are still in much earlier stages in their easing programs.  This means that countries like Japan and the Eurozone will continue to experience currency weakness into the later parts of the year.  When moving out of these currencies, the US Dollar is one of the early and obvious choices, so it will not be overly surprising to see these trends continue well into the summer.

The Week Ahead in Forex 

When looking ahead to the next week to determine where these trends are likely to head next, a good deal of attention will be centered on scheduled commentaries from Fed Chairman Ben Bernanke, and other members of the US central bank.  On Monday and Tuesday, we will have comments from Fed members Evans and Bullard, and this will be followed on Wednesday by Bernanke’s testimony to the US Congress.  Traders will pay special attention to all of these speeches because it will be a key indication of how the Fed views the economy and the need for extended quantitative easing stimulus.  Any suggestion that these programs are no longer necessary should bring additional strength to the US Dollar.

Conversely, any evidence of concern (and the need for continued stimulus) will have the opposite effect, and likely send the EUR/USD back through short term resistance levels.  The ability for prices to see a major extension (especially in the EUR/USD) will likely be limited however, as the economic picture in the Eurozone remains much murkier.  The best indication of prolonged weakness in the Eurozone is the employment picture, which is still holding at record lows.  GDP data is another area of concern, as reports released last week show that the region is holding in recessionary territory for the sixth straight quarter.  Until these trends change, we are unlikely to see any prolonged rallies in the Euro, and this will benefit the Dollar.

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