Is the US dollar index movement a Spike ?

King dollar is back. For those, that have forecasted the ruin of the greenback only three years before, this US dollar index spike could be a nice surprise. Many investors watch the Us dollar index very closely on their trading days. For many of them is a true landmark on the positions to take during the day. Buy bonds or sell commodities, short the equity index futures or go long on certain currencies often is only a matter of what the Us dollar index is going to do.

This index is a weighted mean of the value of dollar versus six of the main traded currencies in the Forex market. Three of them, Euro, Pound and Japanese Yen weight for more than 80% of the index.

Lately we have seen the index spiking at 99 points. That’s an impressive number for many investors. It’s since 2004 that this index, hasn’t reached similar levels. Only the last twelve months the index has gained around 18%. We haven’t seen such a movement in many years. So, which is the scenario that traders are assuming? Why such a strength in such a short time?

We can’t explain the strength of the Us dollar index analyzing the correlation with bond markets or the equity markets because those markets are influenced by this index. So the explanation has to be find basically in the US economic fundamentals, the Fed decisions and external reasons.

Essentially this movement derives from the expectation for the strengthening economy and the imminent rate hike by the FED. That means mainly one thing: inflow of capitals in the US thanks to the higher remuneration.

The external reasons are mainly the weakness of the Euro and of the Yen. Since the ECB has started the QE program, the market expect the euro to fall even more against the dollar for a higher coming inflation in the euro zone on the medium and long term. The weakness of the economy in the euro zone also doesn’t help the euro.

On the other side Mr. Kuroda together with the prime minister Mr. Abe are doing everything possible (Abenomics) to weaken the Yen. Usually investors don’t like to trade against the central banks, this way the Yen can only depreciate further.

In this global war of currencies, investors have difficulties to find strong evidences of the actual values of the single currencies. The dollar now looks a little bit overvalued and this can bring the index down on the short term, as a correction is considered healthy by many investors. For as long as the currency war will go on and the politicians will become currency decision makers, it will be hard to understand, if this US dollar index movement will become a spike.

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