US dollar long-term techs: is Q4 a quarter for reversal?

US dollar: where do we stand?

It’s been a strange year for the US dollar. Even though the Federal Reserve (Fed) has stopped hiking rates and started to cut, the US currency has continued to gain, even though the data hasn’t been hugely strong. Behind the move is a series of events outside of the US, as central banks around the world adopt dovish postures that, frankly, outpace the Fed’s softening so far in 2019.

At each turn, the Fed has attempted to strike a tone of patient stability, waiting for oncoming data before committing to more aggressive cuts; but, at this point, that lack of clarity has simply left market participants to their own devices, and the dollar has continued to gain into into fourth quarter (Q4) trade as the ‘cleanest shirt in the dirty laundry’.

Coming into Q4, the greenback is trading at a fresh two-year high, capping off three consecutive months of gains in Q3. This even with the Fed having cut rates twice – the first such moves since the 2008 Recession.

The downside of a strong dollar

If current matters around the US dollar were as simple as following monetary policy, topside would remain of interest; but on a technical basis, another item has shown up and this syncs fairly well with the current fundamental backdrop that exists outside of the monetary scope.

President Donald Trump has opined, numerous times, on the disadvantages of a strong currency. Namely, it hits US exporters and provides a hindrance for growth; a challenge that becomes very difficult to manage while the country is in the midst of some rather acrimonious discussions on trade with some very large and key trading partners. This, combined with the continued tightening in US rates, and a general slowdown in the US economy.

Given that another presidential election is now just 13 months away, this is a problem that the President would likely want to head off, so each time the greenback has jumped to a fresh high, as we saw on the first trading day of Q4, a his Twitter account will opine on the matter, often in a negative light. This is precisely what happened yesterday as the account launched into a diatribe: 'As I predicted, Jay Powell and the Federal Reserve have allowed the dollar to get so strong... that our manufacturers are being negatively affected. Fed rate too high. They are their own worst enemies.'

So, the question remains – can the Fed remain undeterred by this pressure? As this theme has brewed throughout 2019, a technical formation has built in the dollar that highlights the potenital for a bearish reversal. Buyers have continued to shy away around the establishment of fresh highs while remaining very active and bullish near lows. This has led to the build-up of a rising wedge pattern, which will often be approached for bearish reversals.

Asymmetric support and resistance lead the way

While calling or looking for reversals is a challenge, given that the expectation is for the status quo to completely shift, the current backdrop to the US dollar presents a scenario that could be more attractive for weakness than strength and this can remain true from both technical and fundamental vantage points.

On the fundamental side, there’s been a clear statement of bias from the US President who holds the harnesses of fiscal policy and, on the monetary front, the Fed has a lot of room to make policy softer. While Jay Powell, Fed Chairman, has rebuked the prospect of negative rates, the potential for Quantitative Easing (QE) does remain, particularly if liquidity concerns remain around the currency. Furthermore, if the bank does move deeper into a rate-cutting cycle, given the nine prior rate hikes from 2015-2018, there’s simply more room for it to go compared with other key central banks, like the Bank of Japan (BoJ) or the European Central Bank (ECB).

From a technical perspective, proximity to longer-term resistance could make bullish continuation scenarios a challenge, while bearish reversals could offer relatively tight risk controls with considerable target potential. Collectively, this produces a potentially bearish scenario for the greenback as 2019 winds down and the election year of 2020 draws closer.