Chart Of The Day: Determining The U.S. Dollar's Next Likely Move

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Yesterday, we pointed out that based on fundamentals, gold should have weakened after the Federal Reserve Chairman, Jerome Powell, made a clear, strong case for tightening monetary policy. However, as we demonstrated in that post, from a technical perspective the yellow metal is probably aiming higher. 

As with the precious metal, the US dollar 's relatively muted response to arguably the most hawkish comments in recent memory from the head of the Fed was surprising.

As well, noted safe havens including gold and the USD have been wavering. Both assets are being whipsawed by headlines about the newest COVID-19 variant, Omicron. Since there remains much that is yet unknown about the new COVID strain, every negative or positive news report drives markets lower or higher accordingly.

During Wednesday's trading, investors seemed to focus on Omicron risks, triggering a rush back into safe havens. Today, however, the news has been good.

GlaxoSmithKline (NYSE: GSK ) said its antibody treatment against the overall virus also demonstrated efficacy versus the new strain in initial testing. The World Health Organization (WHO) reported that current vaccinations are likely to protect against severe cases of the variant. Moreover, Australia's chief medical officer said there are no indications that Omicron is deadlier than earlier strains.

Consequently, given the lack of immutability on information related to the Omicron variant, traders have started focusing on monetary policy, which is allowing them to reposition their trades with perhaps a bit more certainty. On that front there's an argument to be made favoring greenback strength at the expense of the yellow metal.

Here's what the current lack of direction looks like on the USD chart:

Dollar Daily

The US dollar advanced by 3% in two weeks, taking the currency to a 17-month high in the fastest rally of the year. After such a decisive move, traders locked in profits, then waited to see what would happen next.

That move could describe a flagpole, leading to the range of decline since then. However, if the risks of Omicron begin to overshadow monetary policy decisions, investors could rotate their capital from the dollar (and dollar-denominated assets) to gold, as described in yesterday's post.

In such a scenario, the dollar may fall below 95.90, completing a small H&S top. That would spark the momentum for a leg down.

But note the 'scenery' on the chart. This inflection point for the USD, a crossroad if you will, is occurring at the top of a rising channel, explaining the psychology of the current pattern development.

Bulls would need a flag to create the oomph needed to break free of the slower ascent. Conversely, bears would need the H&S dynamics to reverse the forward movement of the dollar and go against the long-term uptrend.

This indecision indicates why it's essential in technical trading to wait till a pattern is complete, with a decisive breakout, filtering out whipsaws and their bull- and bear-traps.

Let's now look at the indicators for additional clues. While the MACD—a lagging indicator comparing different price averages—shows weakness, the RSI—a momentum-based leading indicator—topped out. Finally, the ROC, an even more sensitive momentum indicator, has already fallen and may slow before it rebounds.

Via the above indicators we see all the different mathematical perspectives of the current move, providing the conditions for whatever catches the market narrative next.

Trading Strategies

Conservative traders should wait for the dollar to either fall to the bottom of the channel or make new highs for a long position. In the case of a return to the channel bottom, they'd wait for evidence of accumulation, and if the price tracks higher, they should wait for a return move and related signs of demand.

Moderate traders would be content with a breakout in either direction and a return move for a closer entry, but not necessarily for added confirmation.

Aggressive traders could act on the breakout itself. Money management is critical. Here's an example for each scenario:

Aggressive Long Position

  • Entry: 96.50
  • Stop-Loss: 96.00
  • Risk: 50 pips
  • Target: 98.00
  • Reward: 150 pips
  • Risk-Reward Ratio: 1:3

Aggressive Short Position

  • Entry: 95.50
  • Stop-Loss: 96.00
  • Risk: 50 pips
  • Target: 94.00
  • Reward: 150 pips
  • Risk-Reward Ratio: 1:3

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