Will the US Dollar Ever Stop Dropping? Of Course It Will, but When?

02/12/2016 9:00 am EST

Focus: CURRENCIES

Kathy Lien

Managing Director and Co-Founder BKForex LLC, BK Asset Management

Since the greenback keeps falling against the Japanese yen, currency analyst Kathy Lien of BKForex.com highlights the main reason she feels that investors are selling dollars and what she thinks has to happen in order for the sell-off to abate.

Will the US dollar ever stop falling? The answer is easy, of course it will, but the real question to ask is…when. Since the beginning of the month not one day has passed without a sell-off in USD/JPY. We are nine trading days into the second month of the year and USD/JPY has fallen in each and every one of them. This weakness is mirrored in the Dollar Index, which dropped eight out of the last nine trading days or 12 out of the last 14 trading days. If that’s not a definition of a downtrend, we don’t know what is. The decline in the dollar is supported by the decline in Treasury yields which has fallen from 2.27% at the beginning of January to a one-year low of 1.62%. The main reason why investors are selling dollars is because they no longer believe that the Federal Reserve will raise interest rates in 2016. What’s interesting is that Yellen did not say anything in her testimony over the past two days to suggest that would be the case. While we believe that the Fed will leave rates unchanged in March, the year is new and there’s still a reasonable chance that rates could be increased at the end of the year. Nonetheless, Fed fund futures are no longer pricing in a rate hike this year, validating the decline in the dollar.

Now, as for the question of when the US dollar will stop falling, it will happen when US data is strong enough for investors to re-price tightening. Thursday morning’s better than expected jobless claims report triggered a short-lived rally in the greenback that was erased almost as quickly as it was incurred. We’ve learned through the past few years that the focus for the Fed is job growth and not job losses as long as jobless claims remain below 300k. Friday’s retail sales report is very important because the Fed pointed to spending as an area of strength for the US economy. Unfortunately, according to Johnson Redbook, same store sales fell 0.5% in January. However, wages accelerated so it’s a tough call, but either way, we don’t expect spending to be strong enough for the Fed to overlook the volatility in the financial markets and raise interest rates next month. Economists are only forecasting a 0.1% increase after the -0.1% drop at the end of last year. In fact, we believe that the US dollar remains a sell on rallies leading up to the March FOMC meeting. Then, depending upon the central bank’s guidance, the greenback may have a chance of recovering if the dot plot still forecasts more rate hikes in 2016.

The big story Thursday is the sharp intraday spike in USD/JPY. In a matter of two minutes, USD/JPY jumped from 111.45 to 113.06. The speed and velocity of this move is typically indicative of central bank intervention, although when the Bank of Japan intervenes, we expect to see the currency pair move more than 200 pips over the same period of time. The spike in USD/JPY was attributed to rumors rate checking by the central bank, which is typically the first tactic before currency intervention. Japanese officials have made no comments about intervention but we would not be surprised if they were behind Thursday’s move because only a big buyer of USD/JPY who cannot stop hunting can drive USD/JPY up 150 pips in two minutes. It now appears that 110 is the line in the sand for the central bank and while that rate seemed far away a few days ago, the currency pair came very close to testing that level Wednesday night. Even though we are trading above that rate now, the risk of intervention is significant.

The euro climbed to fresh three-month highs versus the US dollar on the back of US dollar weakness. To read the read of the article, click here…

By Kathy Lien, Co-Founder, BKForex.com

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