Market Insider

Dollar rallies to highs of the year as breakout gains momentum

Key Points
  • With stronger U.S. growth and rising interest rates, the dollar has staged a surprise rally and could be setting up for a bigger run.
  • A better tone on trade issues and rising interest rates are two factors driving the dollar higher, as is a stronger U.S. economy.
  • The dollar broke its 200-day moving average, and the euro broke a key psychological level.
The dollar just surged to a 4-month high. How should investors trade it?

After a few baby steps, the dollar is starting to look like it could be getting ready to sprint.

With stronger U.S. growth and rising interest rates, the dollar has staged a surprise rally and could be setting up for a bigger run.

The dollar's move has not been huge, but it has been impressive.

The dollar index is up 3.4 percent in just two weeks, and was up 0.7 percent Tuesday, as it smashed through the technically important 200-day moving average at 91.98. By late afternoon, it was trading at 92.56, near the highs of the year, going back to January.

"The dollar could be on a firming trend for the next six months," said Robert Sinche, chief global strategist at Amherst Pierpont. He said the dollar is being supported by the "classic mix" of firming monetary policy and the expected kick to the U.S. economy from fiscal stimulus.

The euro also slid through $1.20, a psychological support level, and it was trading Tuesday just above a key retracement level at $1.1935.

"If you look at the dollar downdraft since the Trump election, you had the rally immediately into mid-November 2016. You've broken the downtrend line we had from December 2016. If you think this is a break of the dollar downtrend, it's constructive and a bigger deal," said Alan Ruskin, Deutsche Bank global co-head of foreign exchange strategy.

But Ruskin cautioned the moves aren't big and they could easily reverse.

The dollar has a few things working on its side this week, including the Fed's two-day meeting. The Fed is not expected to raise interest rates, but it is expected to give a nod to firming inflation. Rising inflation means the Fed will be more comfortable raising rates, and that's a dollar positive.

The fact that the Trump administration has extended exemptions on steel and aluminum tariffs is another positive, since protectionism is a negative for the greenback and had been seen as a factor holding it back.

Closing Bell Exchange: A lot of momentum for the dollar

Sinche said the foreign exchange market is closely monitoring the trip to China this week by Treasury Secretary Steven Mnuchin and others. They are expected to discuss trade, and it is hoped the trip will end with a willingness by the administration to hold off on slapping China with tariffs. China has said it would retaliate.

"If that goes well, I think that lowers the whole tension level. I think there's a lot of things that the market has been wary of in terms of administration policy. If the China trip goes well, that opens up the avenue for more U.S. exports. You have fiscal stimulus coming in. You have a lot of reasons to think a lot of the concerns about the dollar could begin to fade into the background," Sinche said.

Strategists point to interest rate differentials and Fed policy as major drivers. Higher U.S. rates and a proactive central bank, which is on a tightening path, should provide support to the currency.

Sinche said the dollar, given the right conditions, could reach 100, another 8 percent move and a level it has not touched in a full year.

"'You have to see if it goes up too quickly and whether the president says something about it. There's always the risk that he's going to say something ... that he doesn't like it," said Sinche.

In January 2017, Trump said the dollar was too strong, and it has been lower since then.