US Dollar Rally Losing Momentum

By Sam Kirtley Dec 2 2008 9:10AM www.gold-prices.biz

As the chart below shows, the US dollar has enjoyed a terrific rally in recent months, rising from 72 to 88 on its index.

This has been the result of, not so much a flow into the dollar, but a flow out of most other currencies, and the unwinding of large leveraged USD short positions.

The Federal Reserve began slashing rates and devaluing the dollar as soon as they smelt a problem, but other central banks were slower to act. Therefore now with the Fed rate at 1%, there is not much more room for rate cuts. However in other currencies there is still room for cuts, with England at 3%, the EU at 3.25%, Australia at 5.25%, Canada at 2.25% etc. Therefore the perception is that these currencies can devalue a lot more, relative to the dollar, since there is room for more cuts. Currencies with rates at 1% or below, such as the USD and the Japanese Yen, are moving up against these other currencies.

However this rally in the greenback appears to be running out of steam as the USD encounters some resistance at the 88 level.

Recent trading between 88-85, the greenback looks to be consolidating, but do not jump to that conclusion to earlier. In current market conditions, the one thing that can be relied on is volatility, so we expect the USD to snap out of this trading range. This will probably be with a move to the downside, as the negative MACD indicates. Also note how far the USD is above its 200ma, this gap must close and we see this close being caused by a correction in the USD, down towards the long term support at 80.

After all, the fundamentals for the USD are not getting any better, not by a long shot. A worsening American economy, coupled with recent statements from Bernanke saying that not only will the Fed be prepared to cut rates again, they also have another trick up their sleeve. Bernanke said:

"The second arrow in the Federal Reserve's quiver - the provision of liquidity - remains effective. The Fed could purchase longer-term Treasury or agency securities on the open market in substantial quantities. This approach might influence the yields on these securities, thus helping to spur aggregate demand."

This is a policy called quantitive easing. Not sure what that means? It means the Bernanke led Fed aims to dramatically increase the money supply. Still confused? Imagine Ben and his colleagues printing money and throwing it into the system. Get the picture? This is what “Helicopter Ben” has long said he would do to prevent a depression, and now he is confirming that that is what will happen. This tells us two things. Firstly, the Fed thinks there is going to be a depression if they do not act, and second, the risks of serious inflation, possibly hyperinflation, have skyrocketed.

The Fed’s expansion of the money supply will be ineffective at solving the problem, and will result in serious inflation, possibly hyperinflation down the line. It will also send the dollar back down on its bear market collapse and gold soaring. In the short term we expect the USD to break down through 80 whilst gold should start making a base around $800, before moving upward to challenge its old highs in the medium term.

If you haven’t bought a position in gold, do so NOW. If you’re holding on to gold mining stocks, then keep tight hold, as they should benefit from coming higher gold prices, as the USD begins to decline.