An Oversold Bounce For The Greenback

12/12/06 08:19:09 AM

by Arthur Hill

The US Dollar Index shows signs of firming and looks ripe for an oversold bounce. However, the bigger trend is down--will resistance be around?

Security: $DXY
Position: Hold

The weekly chart (Figure 1) depicts the big trend and the recent breakdown affirms the current downtrend. The US Dollar Index declined from 92.63 to 83.60 and then bounced back above 87 in October. The advance traced out a slight wedge and the index broke wedge support with a sharp decline over the last few months. This support break signals a continuation of the prior decline and the downside target is long-term support, around 80-81.

FIGURE 1: US DOLLAR INDEX, WEEKLY. The recent breakdown affirms the current downtrend.

Graphic provided by: TC2000.com.

Graphic provided by: Telechart 2007.

Even though the long-term trend is down, there are likely to be countertrend rallies and oversold bounces along the way. The October-December decline created oversold conditions as the 15-day relative strength index (RSI) moved below 30 for the first time since May (Figure 2). This oscillator is considered oversold when it is below 30, and traders should expect some firmness or even a bounce when conditions are oversold. However, with the bigger trend down, oversold bounces are against the bigger trend and then are expected to fail. But where?

FIGURE 2: US DOLLAR INDEX, DAILY. The October-December decline created oversold conditions in the RSI (considered to be so when it dips below 30).

Graphic provided by: TC2000.com.

Graphic provided by: Telechart 2007.

Using the price chart and the RSI, we can identify price resistance and momentum resistance to predict where DXY is expected to fail. On the price chart, broken support at 84.50 turns into resistance. This resistance level is further confirmed by the October trendline and I would expect the index to stall or reverse around 84.50. In a downtrend, the RSI often meets resistance around 50. Therefore, I would wait for the RSI to alleviate its oversold conditions with a bounce back to around 50. Taken together, I would expect an oversold bounce to fail around 84.50 in the index and 50 in the RSI.

Arthur Hill

Arthur Hill is currently editor of TDTrader.com, a website specializing in trading strategies, sector/industry specific breadth stats and overall technical analysis. He passed the Society of Technical Analysts (STA London) diploma exam with distinction is a Certified Financial Technician (CFTe). Prior to TD Trader, he was the Chief Technical Analyst for Stockcharts.com and the main contributor to the ChartSchool.

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An Oversold Bounce For The Greenback

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