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The Dollar and Manipulation Control the Market

Over the weekend I had an interesting conversation with a local trader. We typically meet a few times a year to share our market outlooks, new trading tools and techniques, and usually finish our session off in a debate about the US market manipulation and how to trade around it.

Talking about market manipulation always opens up a can of worms and sparks some interesting theories… And while everyone has their own views and opinion on this subject I thought I would briefly share the main points I pulled from our conversation.

I did talk about the dollar index last week, but the recent price action unfolding today is important so I’m going to recap on it again.

My Weekend Conversation Key Thoughts:

Point form thoughts supporting Lower Equity prices and a Higher Dollar:

-          Dollar index looks ready for a major rally (high dollar means lower stocks)

-          SP500 may have just formed a double top

-          SP500 closed strongly below the 20 day moving average

-          First week of May for the past two years have been intermediate market tops

Points supporting Higher Equity prices and a Lower Dollar:

   Countries around the globe are trying to keep their currency value low including the United States.

   Presidential cycle strongly favors higher stocks prices which means the dollar should not rally until Nov.

   What do all these points mean? Let’s take a look at the dollar charts below…

4 Hour Dollar Index Chart:

This chart time frame allows us to see all intraday price action while being able to zoom out several months for patterns along with key support and resistance levels.

As you can see over the past few months the dollar has been consolidating sideways. Within this consolidation it has formed two bullish falling wedges with the most recent one breakout last week right on queue.

Using this 24 hour futures dollar index chart we can see where things are trading through the weekend. On Friday the dollar index closed around the 79.50 level. As you can see the dollar has surged Sunday night by more than half a penny breaking through its down trend line.

The next few weeks will continue to be exciting ones as strong moves in the dollar will create wild movements in stocks and commodities.

Long Term Weekly Dollar Index Chart:

If you zoom WAY OUT using the weekly chart this shows you the two major areas where the dollar index is likely to reach come November. Also with these levels are my SP500 price points which are simply numbers I pulled from the charts using basic analysis. I say this because I’m not into long term forecasting but rather shorter term price movements. A lot can change between now and then.

So, if the dollar index rallies to the 86 – 88 level then I would expect the SP500 to be trading back down at the 1000 level. If this takes place, the Fed will likely issue QE3 to jam the dollar back down and boost equities.

The flip side of the coin is that the dollar rolls over here and gets pulled down. This will boost stock prices in favor for the president’s election. After that the dollar would likely rally which in turn would put a major top in the stock market, kick starting a bear market.

The big question…

Do you short the market in anticipation of rising dollar and falling stock prices? OR do you buck the trend and stick with the theory of a lower dollar value and presidential cycle?

The charts above clearly show how we are entering a major tipping point for the market and the next couple months are likely going to provide some big price swings for stocks, commodities and currencies.

If you want to get my thoughts and market ideas each morning before the opening bell be sure to join my video newsletter The Gold & Oil Guy.com

Chris Vermeulen

The Dollar & Gold Have Eyes on Europe

Friday saw heavy selling pressure coming into risk assets, specifically equities and oil. However, the real driving force behind the selling pressure is likely the result of several unrelated economic/geopolitical events. Clearly the unemployment report had an impact on price action, but strangely enough it would appear to those more in tune with reality that market participants want lower prices so that the next quantitative easing program can be initiated.

Another key development in equities price action as of late has been selling pressure in Apple (AAPL). A few weeks ago we witnessed a sharp downturn after prices surged higher into a blowoff top. Earnings came out and prices jumped again and we have watched Apple’s stock price drop considerably since.

Friday saw sellers circling the wagons pushing the tech behemoth down around 2.25% as of the scribbling of this article. When AAPL was rallying it helped the Nasdaq Composite and the S&P 500 grind higher. Now that it has clearly given up the bullish leadership role, it now appears to be a drag on the price action of domestic indices.

Additionally there was a mountain of economic data released out of Europe overnight which was entirely negative. Spain, Italy, France, Germany, and the Euro-area in general saw their Service PMI readings all come in below expectations. Europe is moving into a recession which whether economists want to acknowledge it or not has implications on domestic U.S. markets. The Eurozone as a whole is the largest economy in the world. Clearly the European economy is slowing, and our exports to Europe will slow as well.

This leads me to the final data point which is still unknown. What will the outcome of the French and Greek elections over the weekend mean for the Eurozone’s geopolitical ties as well as the potential impact on the Euro currency itself?

The answer to that question will likely not be known until late Sunday evening; however by the time U.S. markets open this coming Monday the cat(s) will be out of the bag. This final question leads me to the real topic of this article. The question I want to know is what impact these elections could have on the value of the U.S. Dollar Index as well as gold?

As an option trader, I am always focused on the volatility index (VIX) as well as implied volatility on a number of underlying assets. I came across the following chart courtesy of Bloomberg which appeared in an article posted on zerohedge.com. The chart below illustrates the differential between European Union equities’ implied volatility levels and the EUR/USD currency pair.

Chart Courtesy of Bloomberg

It is rather obvious that EU stocks and the EUR/USD implied volatility levels have diverged. Generally speaking, when volatility increases it means that price action will typically move lower. The higher levels of volatility, the lower the price the underlying will move. There are exceptions to that rule such as earnings reports or key headlines which drive volatility higher, but generally speaking high volatility levels correlate with uncertainty and risk.

What is particularly troubling about the chart above is that the EUR/USD currency pair is seeing reduced implied volatility. This essentially means that the market is not expecting any major moves in the currency pair amid all of the poor economic numbers coming out of Europe.

For those not familiar, the EUR/USD currency pair reflects the value of the Euro against the Dollar. Thus, if the EUR/USD is rising, this means that the Euro is moving higher against the Dollar. The opposite is true when EUR/USD is selling off.

At present implied volatility levels are quite low by comparison to European equities. The zerohedge.com article entitled “Is EURUSD Volatility About to Explode?” shares the following statement to readers, “The last two times this has occurred (in the last year), EURUSD implied vol has rapidly caught up to equity’s risk.”

What that statement means is that it is becoming more likely that implied volatility of the EUR/USD currency pair is going to increase back in par with European stocks. If that takes place, which based on recent data is likely, the intraday volatility in the EUR/USD will increase thus intraday price ranges and sharp moves will become more prevalent.

The long story short is if implied volatility picks up in EUR/USD then it is likely going to be quite beneficial to the U.S. Dollar. The largest concern for Fed Chairman Ben Bernanke has to be the potential for a monstrous move higher in the U.S. Dollar should an unforeseen event arise in Europe. An event such as a disastrous auction or the discussion by German Parliament about leaving the Euro could both help push the Dollar much higher than anyone expects.

A higher Dollar is negative for risk assets and Mr. Bernanke does not like the word deflation at all. None of the central banks around the world like deflation because it means all of the debt they are holding and helping to prop up has a much more significant intrinsic value. If the Dollar is worth more, Dollar denominated debt is also more expensive to pay off.

The U.S. Dollar Index has languished for several weeks, but recently the greenback started to reverse higher and at this time has managed to push above major resistance levels overhead on the daily timeframe. The daily chart of the U.S. Dollar Index is shown below.

If the Dollar remains firm into the bell on Friday which appears likely, the results of the two key European elections over the weekend could provide the ammo needed to really force the U.S. Dollar higher or lower depending on market sentiment. It appears the Dollar wants to go higher currently, but a sharp reversal is not out of the question.

The key level to watch is the 80.76 price level on the U.S. Dollar Index futures. If that level gets taken out, the Dollar could extend to recent highs and beyond should the situation in Europe begin to unravel.

If the Dollar surges what will that mean for gold? Generally speaking most readers would expect gold and silver to move lower on Dollar strength. For a time, that would likely be true, but if a real currency crisis plays out gold and the Dollar might rally together as citizens would try to move their wealth into safe, liquid assets.

Under that type of scenario, gold and silver could both rally along with the Dollar. When the moment finally arrives where the Euro begins to selloff sharply, physical gold and silver will be tough to acquire in Europe.

In the short to intermediate term, gold will likely continue to drift lower searching for a critical bottom. The weekly chart of gold futures below demonstrates the key support and resistance levels that may have to be tested before a major reversal can play out.

Make no mistake, I remain a gold bull in the long term. However, in the short run the Dollar has the potential to outperform gold under the right circumstances. Ultimately it is important to recognize the distinction between selling pressure and what would likely happen in a full blown currency crisis in Europe which is possible, if not ultimately inevitable.

The price action over the weekend on Monday will likely be telling and we could see the beginning of a major move in a variety of underlying assets depending on the election results. Clearly times have changed when U.S. market participants are concerned about what is going on in Europe more so than domestic issues. Unfortunately, we live in very strange times.

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