US Dollar Index Bottoming?
May 3, 2007: 10:08 AM CSTHere is the most updated weekly swing chart of the US Dollar Index, which is on par to do one of two things: Make new lows or find support & reverse (temporarily).
Notice the two momentum divergences. We are currently experiencing a ‘buy’ divergence at a place where the market reversed in the past (2005) and odds favor a reversal in price soon from a momentum standpoint (although the trend is quite obviously down currently).
What does this mean? When the dollar (index) decreases relative to other currencies, your dollars can purchase less goods and are less valuable, even above and beyond an inflationary standpoint.
It also means, as others have indicated, that the Dow and Markets making new lifetime highs aren’t as significant as they could be if the dollar index was making new highs as well. The new price highs are less significant because the dollar is worth less.
Envision you found a great, guaranteed investment opportunity in Mexico that would return 30% in a year, and say you invested $100,000 for a profit of $30,000. The only catch is that you had to invest in pesos. When you invested, assume $1 bought 10 pesos. The investment was 1,000,000 pesos for a return of 300,000 pesos. Not bad, right?
Now let’s assume that Mexico’s pesos fell relative to the dollar by a significant amount – 50% (for illustration purposes). Let’s assume that the exchange rate now was only $0.50 for 10 pesos. To put it another way, $1 = 20 pesos. You now exchange your 1,300,000 pesos for US dollars and wind up with … $65,000 US Dollars.
So, even though your investment returned 30% in a year, you are actually DOWN $35,000 dollars because the peso was worth much less by the end of the year.
Of course, this is an extreme example, but realize that the Dollar Index has declined 33.5% since its 2002 high, which means that your dollars are worth about 1/3 less than they were in 2002.
Always cross-check inter-market relationships when determining long-term price and the implications of price on your investments. The Dow may be making new highs, but your dollars aren’t.
