What Could Turn the Tide in the US Dollar?

What Could Turn the Tide in the US Dollar?

The last few months have been less than encouraging for investors that are bullish on the US Dollar.  One example of a key asset that is tied to the value of the Dollar can be found in the PowerShares DB US Dollar Index Bullish ETF (UUP)PowerShares DB US Dollar Index Bullish ETF (UUP), which has met selling pressure relative of some of its major trading counterparts (i.e. the Euro and the British Pound).  The only area where the Dollar has maintained a relatively elevated position would be against the Japanese Yen, and the USD/JPY forex pair has hit recent highs back above 105 as a result of the broader weakness in the always low-yielding Yen.  

Given all of these factors, it should be expected that ETFs like the CurrencyShares Euro Trust ETF (FXE) and the CurrencyShares Japanese Yen Trust ETF (FXY) would be moving in opposite directions, and this has absolutely been the case in recent months.  “The overall trajectory in the Euro and Yen has been very pronounced,” said Eugene Wong, currency analyst at FXBrokerSearch, which helps traders looking for information and news developments at the major brokers in the currency markets.  He went on to say that “these differences have even managed to overshadow the trends seen in the latest moves in the US Dollar.”  So, what factors will be most important for the US Dollar as we move forward in 2014?

Key Factors Influencing the Next Dollar Moves

For traders that are looking to capitalize on the next likely moves in the US Dollar, it will be critical to look for developments in the US labor market as there have been some surprising developments of late.  First and foremost was the latest Non Farm payrolls data, which came in much lower than market expectations.  The early estimates were actually pretty lofty, given the fact that the recent data has shown a trend of strong strength over the last few months.  Analysts were looking for a number around the 200K mark, but the actual results surprised to the downside by coming in at 76K for the month.  

This is important because the labor markets will be a key issue for the US Federal Reserve in determining the extent to which quantitative easing stimulus can be removed from the economy.  For traders, this bias becomes critical in determining where the US Dollar is likely to head next.   A more aggressive “tapering” policy would be highly bullish for the US Dollar because this would mean that there are fewer Dollars making their way through the economy.  Supply and demand dictates market valuations, so this would mean that the reduced supply would send prices higher.   But, on the other hand, if the Fed is reluctant to start removing stimulus from the economy in a grandiose fashion, the Dollar could see a period of prolonged weakness.

Alternative Currencies

Of course, this will also depend on the relative strength or weakness of the other major currencies.  There is little reason to believe that the Yen will start to appreciate any time soon.  So, the real questions center around the Euro and British Pound.  For the Euro, the real issue still surrounds the region’s debt problems even though this is something that has largely exited the financial headlines that discuss what is happening in the 17-member nation.  For the British Pound, the currency’s fate ultimately rests on the ability of the Bank of England to contain its inflation problems.  THis means that it will be critical to monitor developments in the Consumer Price Index (CPI), as this is the reading that tends to be most influential in determining interest rate policy.   Negative developments in any of these areas would likely help to contain broader losses in the US Dollar.