Is there still hope for the dollar?

The USD tempted the market with a potential pullback on Friday after another decent month of US jobs growth and slightly stronger than expected wages. However, Monday morning blues have set in and the buck is weaker once more.

The USD tempted the market with a potential pullback on Friday after another decent month of US jobs growth and slightly stronger than expected wages. However, Monday morning blues have set in and the buck is weaker once more versus the euro, Swedish krona, pound and franc. Can anything lift the dollar out of the doldrums?

Lead indicators give dollar bulls some heart

Dollar bulls could take some heart from two developments that may indicate that a dollar rebound is on the cards. The first is a lead indicator, which has started to show some dollar strength. The USD/Israeli shekel (ILS) tends to be a lead indicator for the dollar index as you can see in the chart below. Over the last year, USD/ILS peaked ahead of the dollar index in December 2016, circled in the chart below, it then continued to decline through February and March, even though the dollar index made a stab at recovery before joining the USD/ILS in a sustained downtrend for the next few months.

However, things started to change in July, when USD/ILS seems have made a bottom and has engaged in a fairly decent uptrend since then, rallying some 3.7%. Considering USD/ILS and the dollar index have a fairly strong positive correlation, more than 50% over the last 5 years, and the ILS dollar cross has been a decent lead indicator for the broader dollar index in the last 9/10 months, it is worth taking notice when USDS/ILS makes a move ahead of the dollar index.

Of course, lead indicators don’t give us the crucial bit of information that every trader wants to know: the timing of the change in trend; however they are a good warning signal for the dollar bears to take note that the buck’s downtrend may be on its last legs.

Chart 1: 

Source: City Index and Bloomberg

News analysis supports the dollar contrarian

Unsurprisingly, the largest number of currency stories on Bloomberg are on the dollar, with 17,886 news stories and articles published about the dollar in the last week. A quick sentiment analysis on negative and positive stories relating to the dollar can also give us a good gauge of sentiment towards the US currency.

Charts 2 and 3 below shows the dollar index and the number of positive $ stories (chart 2) and negative $ stories (chart 3). While there isn’t a clear trend between dollar price action and news sentiment towards the dollar, what did catch my eye is that the number of positive stories have dropped off more sharply than the number of negative stories in recent days, although both have been falling.

This is significant, as it suggests that positive sentiment for the dollar is falling away, while negative sentiment seems to be holding up pretty well. When negative sentiment is poised to overtake positive sentiment this can get the contrarians excited, as it can be a sign that the dollar is oversold and due a bounce back.

While none of this information tells you when the dollar may change course or how much it may (or may not) appreciate by, it is still useful as it gives you a warning signal that the dollar downtrend may be on its last legs and a rebound could be around the next corner. Dollar bears beware.

Chart 2

Source: City Index and Bloomberg

Chart 3: 

Source: City Index and Bloomberg 

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