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US Dollar Begins To Shake Off Carry Trade Woes at Trader’s Narrative

Gold finally reached the apex of its parabolic move and (so far) is down about 8% from its high at the beginning of the month. The US dollar however is only up by 2.7% (so far). But, maybe, just maybe this is the start of something for the beleaguered greenback.

While US dollar sentiment has been extremely bearish for a few months, the US dollar index has just now managed to move above its 50 day moving average. The last time we saw such a tiny gleam of positivity from the dollar was back in April (and that didn’t work too well):

us dollar index start of bottom Dec 2009

If this is the real thing, the US dollar has yet to go a long ways. A significant bottom won’t be formed in one day obviously. For one, both the 50 and the 200 day moving averages are still falling rather precipitously. So, assuming this is the genesis of a rally, expect a lot of back and forth until the moving averages also turn.

One major positive development after such a potential recovery would be a golden cross. We last saw this in September 2008 and it lead to a few months of very sizable gains. It also helps that we are at the top of a major support area for the dollar.

If this is true, then it has implications for almost every single other market out there because of the gargantuan dollar carry trade. With every single market correlating, the unwinding of the US dollar carry trade will have implications for gold, corporate bonds, emerging markets and the US equity markets (down).

We don’t really have a reason to expect this small move above the 50 day moving average to be any more promising than the many other similar counter rallies, except that the trade weighted dollar index peeked above its downward trend line a month ago, as shown in this chart from SocGen:

trade weighted US dollar index SocGen

As well, it bears noting that while the RSI for the US dollar index has been heading upwards for the past few months (positive divergence), the RSI for the S&P 500 has been doing the exact opposite.

At best, the US dollar has taken the first tentative steps in the bottoming process. In which case, this simply deserves monitoring. At worst, this is not a signal but more ‘noise’ similar to the myriad counter trend mini-rallies we’ve seen. The reason the distinction is important is that all risky assets are correlated now thanks to the carry trade.

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