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posted on 28 March 2017

The Dollar's Coming Impact On Markets

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Macro Tides Technical Review 27 March 2017

In the November 28 WTR I wrote:

“I think the Dollar is nearing a high in anticipation of a Fed rate increase on December 14. After a straight up move since the election, the Dollar index is giving the first signs that the run is nearing an end. Although the Dollar may push modestly higher going into the Fed meeting or year end, the next bigger move is likely to be down."


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The Dollar made its intra-day high of 103.82 on January 3, and then declined to 99.23 on February 2. In the February 6 WTR I thought the door was still open for the Dollar to rally to one more new high above 103.82, before a multi-month decline to below 93.00 took hold. I noted in the February 13 WTR that if the Dollar rallied to near 101.5 - 102.20 and failed, the peak in January may have been the top of the bull market that began in March 2008.

Click on any chart for large image.

The Dollar hit an intra-day high of 102.26 on March 2 and 102.25 on March 9 before slipping. On March 14, the day before the Fed’s interest rate decision, the Dollar’s high was 101.79. After the Fed’s rate announcement on March 15, the Dollar declined sharply and today traded below the intra-day low of 99.23 on February 2. The Dollar’s rally from the February low failed at precisely the level it needed to clear (102.20).

The Dollar is now oversold as measured by its RSI, which fell below 30.0 today as noted by the green arrows on the chart above. Over the past year, the Dollar has rallied each time the RSI fell to 30, so the Dollar is likely approaching a trading low soon, if it didn’t today.

The decline since the January 3 high appears to be 3 waves, so the potential of one more rally above 103.82 still exists.

More likely is a rally in the Dollar back up to 101.50 - 102.20. In order to push above this area of resistance, an event that inspires a flight to quality would likely be needed. The recent failure to breach 102.20 occurred in the face of Fed presidents professing the need for a rate hike, a good jobs report, and a surge in the probability from 20% to 85% for a rate increase at the March 15 meeting. If the Dollar was unable to run up to the 103.82 January high with those tailwinds, it will take something else other than Fed policy to make it happen.

The upcoming rally in the Dollar could determine the long term outlook. When the Dollar tested the March 2015 high in November 2015, the Major Trend Indicator (MTI) was at a much lower level (red trend line). This along with other technical indicators led me to expect a decline in the Dollar Index to near 93.00. The dollar bottomed on May 3 2016 at 91.88, and then rallied to a new high above 100.51 as forecast.

As the Dollar failed to rally above the resistance at 102.20, the Major Trend Indicator was far weaker than it was in December. Even if the Dollar does manage to rally above 103.82, the MTI is unlikely to surpass its December high. The technical picture will look even weaker if the Dollar only tests 101.50 - 102.20 and then turns lower.

My guess is that the Dollar is likely to test the May 2016 low of 91.88 before the end of 2017. If correct, a number of markets are likely to be hurt in the short term from a rally in the Dollar to 101.50 -102.20, before benefiting from a 10% decline in the Dollar in coming months.

Emerging Markets

After the Dollar topped in late December, the Emerging Market ETF EEM rallied from $34.00 to over $40.00, a gain of almost 18%. However, as EEM was making a new high last week, its RSI was far lower than it was at the high it posted in mid February (red arrow chart below). The same type of divergence occurred in April 2016 (red arrow chart below), which was followed by a 10.3% correction. EEM fell 6.35% to November 4, after a new price high was not confirmed by EEM’s RSI on September 22. After the election, EEM dropped another 5%, as the Dollar soared.

Last week’s RSI divergence suggests that EEM could decline between 6.35% to more than 10% in coming weeks, especially if the Dollar rallies as I expect. The first target is the March 9 low of $37.39, with the potential of a decline to $36.50 (green trend line).

At the prior price lows after an RSI divergence, EEM’s RSI fell below 35. Patience seems in order until EEM’s RSI drops at least below 40 in coming weeks. If the Dollar does top as outlined and confirms the potential of a 10% decline, EEM could experience a rally to $44.00 - $45.00, testing the highs of 2015, 2014, and 2013. A close above $45.00 would open the door for a move to the 2011 high near $50.00. As you can see, the Major Trend Indicator provided a timely Buy signal in February 2016.

Gold and Gold Stocks

If the Dollar makes a low soon, gold and gold stocks could come under pressure, if the Dollar rallies back to 101.50 -102.20. From its low on December 15 at $1127.20, gold rallied to a high on February 27 of $1264.90, a gain of $137.70. Gold then dropped $70.40 to a low of $1194.5 on March 10. My guess last week was that the rebound in gold would top out between $1238 and $1249, and then experience another decline of $70.40.

With the failure of Congress to repeal and replace the Affordable Care Act on Friday, the Dollar fell below its low on February 2 today and gold popped to $1261.00. Both markets are at a crossroads. If gold closes above $1265.00, the odds of a decline to between $1170 and $1180 in coming weeks would diminish.

A 61.8% retracement of the $137.70 rally from $1127.20 to $1264.90 would bring gold down to $1179.80, while a 78.6% retracement would have gold make a low near $1156.65. My guess has been that gold may bottom in coming weeks between $1170 and $1180 which is close to the low of $1182.60 on January 27. Gold has retraced 94.5% of the $70.40 decline after topping at $1264.9.

In contrast, the gold stock ETF GDX has only recovered 53% of the $4.57 loss it suffered after peaking on February 8 at $25.71. This shows that the gold stocks are relatively weak compared to gold which is often a negative indication for gold.

Since the high last August in the gold stock ETF (GDX), gold stocks have enjoyed a good rally each time GDX’s RSI fell to 30 or below (blue arrows chart below). The lone exception was after the election, when the Dollar soared and gold stocks went sideways before making an intermediate low in December. I recommended GDX in December and recommended selling half of the position as GDX rallied above $23.00 and the remaining half at $25.17 - $25.25.

GDX then lost $4.57 from its high before bottoming at $21.14. When its RSI dipped under 30 on March 3, I recommended GDX in anticipation of a rally of roughly 10%. Last week I said it was time to sell GDX, and on Tuesday GDX rallied comfortably above $23.00. If gold follows the pattern described above, GDX has the potential to decline to $19.43, where a gap was created on December 23 (chart below). Last week, GDX spiked to $23.56, which I thought might be challenged or slightly exceeded in the next few days. Today, and despite the strength in gold, GDX’s high was $23.54, so it failed to exceed last week’s high. The 61.8% retracement of the $4.57 decline would allow GDX to rally up to $23.96. A close above $24.00 would reduce the odds of another large decline. My guess remains that GDX has the potential of experiencing another decline of $4.57, so the risk reward in the short term does not appear attractive. If $23.56 marks the high on this rebound, an equal decline would bring GDX under $19.00, which would close the gap at $19.43.

Longer term, I think gold will rally above $1400, while GDX has the potential to rally to at least $31.00.

The Fed and Treasury Yields

Last summer, Large Specs were very long and Commercials were very short. As is often the case, the smart money Commercials were right and the trend following Large Specs were wrong as bond prices suffered one of their largest declines in the past 30 years. Now, the Commercials have a large long position, while the trend following Large Specs are short.

Since the shorts will have to buy to cover their short positions at some point, bond prices may rally more than most traders expected. This is what seems to be happening since bond yields have fallen since the Fed raised rates on March 15. If upcoming economic numbers show a bit of softness, those short may be forced to cover quickly, which would lead to a further rally in Treasury bonds and cause yields to drop.

The 10-year Treasury yield has declined from 2.615% in the days leading up to the Fed meeting to 2.348% today and the yield on the 30-year Treasury bond has declined from 3.201% to 2.960%. The yield on the 10-year is approaching resistance between 2.31% and 2.33%, so a modest rebound in yields in coming days is likely. From its high the 10-year yield dropped .267%, so a 50% retracement would target a rebound to 2.48%. A subsequent equal decline in yields would bring the 10-year yield down to 2.22%.

A close below 2.3% should result in a bout of short covering which could bring the 10-year below 2.2%. If the same relationship holds for the 30-year Treasury bond, its yield would bounce up to 3.10%, and then decline to 2.86% or less depending on short covering.

The Treasury bond ETF (TLT) marginally dropped below its mid December low and made a new price low of 116.49, so it is possible to count the pattern from the price high last July as a 5 wave decline. This suggests that TLT will likely rally to at least wave 4 of lesser degree (123). Today, TLT pushed above its green down trend line but closed on the line, which reinforces that it is near a short term high. From its high of 143.62 last July, TLT declined 27.13 points. A 38.2% retracement would lead to a rally to 126.85, while a 50% retracement would bring TLT back up to 130.00.


Two weeks ago I noted that the market was beginning to show signs of deterioration for the first time since the S&P bottomed on November 4. The advance / decline line had registered it largest pullback since the last half of October, after many weeks of strength. The same degree of weakness was also apparent in the advance / decline line for the Nasdaq, which has far fewer interest sensitive issues and bond funds than the NYSE. There had also been a pronounced loss of upside momentum as measured by the percent of stocks making a new 52 week high on the NYSE and Nasdaq. The percent of stocks making a new 52 week high was noticeably lower two weeks ago than in mid December.

During February the DJIA rose for 12 consecutive days. But despite all the headlines, the percent of stocks above their 200 day average in February was comfortably below where it was last summer as noted last week. The recent weakness has clearly broken the uptrend in the percent of stocks above their 200 day average, and was another sign the market was vulnerable to a 5% correction.

The DJIA has now fallen for 8 consecutive days and the RSI on the S&P has dropped from 82 to 42. Short term the market is modestly oversold and on Friday more puts than calls were purchased. This suggests an attempt to rally is coming soon. The most important point is that the correction that began after the high on March 1 is not over. The S&P fell 79 points from its high of 2401 on March 1 to today’s low of 2322 in wave a. A 61.8% retracement of the decline would lift the S&P to 2370 or so for wave b. If wave c is equal to wave a, the S&P would fall 79 points and briefly break below or at least test 2300. There is a shelf of support between 2250 and 2280 as the S&P traded in that range between December 13 and January 20.

As I have noted, the S&P left three gaps as it marched higher during February. Traditional charting indicates that the gaps will be filled sooner or later. The S&P has filled the gap at 2371.54, and 2351.90. I expect the remaining gap at 2311.08 from February 9 to be filled during wave c.

I think the S&P is in Wave (5) of the bull market that began in March 2009, after wave (4) ended in February 2016. The current correction is wave 4 of (5) and should be followed by a rally to above 2401 before Labor Day. If the internal strength of the market weakens noticeably during wave 5 of (5), the odds will increase that the bull market form March 2009 is ending. We’ll cross that bridge if and when the S&P makes a new all-time high.

Tactical S&P Sector Rotation Portfolio Model: Relative Strength Ranking

Technology stocks took over the leadership of the rally after the financial sector and small caps began to falter after peaking on March 1. Last week, the Technology ETF (XLK) made new highs, but its RSI posted a lower high, which represented a negative momentum warning. In addition, the Nasdaq 100 and Nasdaq Composite each recorded Negative Weekly Key reversals. Both averages posted a new high above the prior week, a lower low, and then closed lower on the week. XLK also experienced a negative key weekly reversal. Negative Weekly Key Reversals are often a sign of a trend change. This suggests that the current correction has further to go in both price and time.



Disclosure - The S&P 500 Index is a broad-based measurement of changes in stock market conditions based on the average performance of 500 widely held common stocks. The Russell 2000 Index is a small-cap stock market index of the bottom 2,000 stocks in the Russell 3000 Index. The Nasdaq 100 is composed of the 100 largest, most actively traded U.S. companies listed on the Nasdaq stock exchange. All indices, S&P 500, Russell 2000, and Nasdaq 100, are unmanaged and investors cannot invest directly into an index.

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