Expect Dollar’s Record Streak to End, Gold and Oil to Rally

by Rick Pendergraft | May 17, 2012 2:38 pm

Wednesday marked the 13th straight day of gains for the U.S. Dollar Index (USDX). According to Bloomberg Ttelevision, this is the longest winning streak since records first starting being kept for the index.

This rally in the dollar has come as investors have been seeking safety during this latest round of European debt fears. The election results in France along with Greece have renewed investor concerns about possible debt defaults in Europe. The only problem is the U.S. has its own debt problems — they just aren’t as serious as the ones in Europe. As Gordon Gekko[1] would put it, we are the dog with the fewest fleas.

If you are not familiar with the USDX, it is an index that measures the value of the U.S. dollar against a basket of six other currencies in which the euro is the most heavily weighted. The following table shows the six currencies and their weightings in the index:

Currency Weighting
Euro (EUR) 58.6%
Japanese yen (JPY) 12.6%
Pound sterling (GBP) 11.9%
Canadian dollar (CAD) 9.1%
Swedish krona (SEK) 4.2%
Swiss franc (CHF) 3.6%

While the rally in the USDX has been impressive and welcome for dollar bulls, there is a negative correlation between the dollar and certain commodities, specifically gold and oil. The futures contracts are denominated in U.S. dollars and, therefore, when the dollar experiences a strong rally, gold and oil tend to fall.

Since the end of February, the dollar has gained almost 4% while gold has lost 13.6% and oil has lost 12.8%. This recent trend has only added to misery for gold and oil investors. Despite the recent performance, there could be good news on the horizon for investors that are bullish on gold and oil.

Looking at the charts for the dollar, gold and oil, we see that the dollar could face resistance in the 82 area, its high from earlier this year. You also should take note that the dollar is extremely overbought based on the daily slow stochastic readings and the 10-day Relative Strength Index.

Perhaps it is just a coincidence, but gold and oil are both sitting just above major support levels. Gold found support at the $1,525 level in December and it got close to the level in September. Both times gold rallied sharply during the next few months. And as overbought as the dollar is, gold is the most oversold it has been in several years.

Oil dropped down to the $92.50 per barrel price back in December, but then rallied over $10 in a few short weeks. West Texas Intermediate crude eventually would climb as high as $110 in February before starting this most recent slide. Like gold, oil is as oversold as it has been in the past several years.

While the rally in the dollar has been impressive, it has been based mainly on fear — the fear that one or two countries in Europe could default on its debt. The European debt crisis has been going on for several years now. If investors haven’t taken measures to protect against a default by now, they deserve to lose money.

Eventually, investors will become numb to the headlines out of Europe and they will pay more attention to what is going on domestically and in other parts of the world. By ignoring — or minimalizing at least — the news out of Europe, it will allow the technical factors to weigh more heavily on investors. Because of this, I look for the dollar to slide in the next few weeks and gold and oil to rally.

  1. Gordon Gekko: https://investorplace.com/2012/05/can-gordon-gekko-teach-you-as-much-as-warren-buffett/

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