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Dollar Scenarios
October 20, 2011

Once again, the markets did little to further our cycle interpretations. Moves early in the session by gold, stocks and the dollar all threatened something more meaningful, but late-day reversals mired our charts with further indecisiveness. Interestingly, the mid-day reversal commenced just as gold and the SPX were testing their 150DMA and 65DMA, respectively. Furthermore, silver was defending the $30 level... a pivot which proved to be quite meaningful in late September and early October... and the dollar was only inches away from setting a new high for the week. I suppose a retreat was inevitable against such resistance. The next session or two should reveal whether these bounces are temporary or whether the pivots will hold.

Since the answer to the last sentence is highly dependent on which of the dollar's daily cycle interpretations is valid, I thought it might be useful to look at each scenario in a little more detail. Let's begin by breaking them onto separate charts.

DX Daily A

For no reason other than gratuitous academic gratification, we will shackle this first scenario with the technical-looking label, DXA. Under this scenario, the dollar should launch higher any day now, just as it did after a similarly gut-wrenching drop during the second intermediate cycle following the 3-year cycle low in 2008.

DX Daily B

Given DXB, the intermediate cycle is already in decline, and the dollar would be working its way lower for 6-13 more weeks. The ramifications of this scenario include a 3-year cycle which peaked in only 5 months. If such a failure of our currency were to come to pass, the inflationary pressure I anticipate over the next 2-3 years will actually play out much worse than initially expected, and we will have no choice but to defend ourselves by purchasing commodities, both paper and tangible.

The action in the dollar index over the next few days should provide the primary clue to which scenario will develop. If DXA is valid, Tuesday's daily swing low should hold, so a break above DX 77.5 will strongly support an intermediate-term bullish path. If Monday does not hold as a daily cycle low, DXA loses a lot of credibility since the purported daily cycle out of the September 15 low would be pushing the end of the normal timing band. Therefore, a break below DX 76.5 strongly supports DXB.

A secondary clue could come from the CRB.

CRB Weekly

To summarize, seeing the dollar lose DX 76.5 would offer a strong clue that a larger rally is not to be, and a move by the CRB above its cycle downtrend line would provide further confirmation of DXB.

Let's next take a look at how each scenario relates to potential paths for gold and stocks. Beginning with gold, we saw the 150DMA tested today just as gold encroached its daily cycle timing band. If DXB is valid, gold likely just printed a daily cycle low.

Gold Daily

If gold were to form a new daily cycle here, we would then hold definitive proof that its intermediate cycle ended at an unusually short 13 weeks. In this respect, the intermediate cycle count does not support seeing gold bounce here. However, bullish percent under gold mining shares, as well as public sentiment under gold, both support the case for a rally. Gold sentiment sits near levels that have halted every intermediate decline out of the 2008 low. The caveat is that the 2008 low saw a much lower sentiment reading, and if commodities are still mired in a multi-year cycle decline, a case could certainly be made for gold price and gold sentiment to weaken further. So the sentiment story for gold does not entirely rule out DXA.

As you may have guessed the clues from stock cycle interpretations also offer a mixed bag of evidence. The bigger picture story is that equities should be heading down into a 4-year cycle low in either the spring or fall of 2012. In this regard, we would expect the dollar to rally, at least in the earlier stages of the equity decline. From a shorter-term persepctive, stocks appear to be poised for further strength.

SPX Daily

A break higher out of this crawl would also offer evidence toward DXB. However, by that time the dollar would likely already be failing DX 76.5. Of course, a point worth remembering here is that when strongly-suggestive patterns like trend line crawls break the wrong way, the move in that unexpected direction tends to be quite powerful. Therefore, if the SPX loses the 65DMA on a closing basis, I may take a pointed stab at the short side of equities along with my dollar longs.


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