Fundamental Outlook for US Dollar: Bullish

- Non-farm payrolls contracts for the 10th consecutive month, sending the jobless rate to a 14 year high
- Fourth quarter GDP numbers may be months away, but data suggests a recession is already underway
- Factory activity hits its lowest level since 1982, while the service sector is in a record-breaking contraction

Throughout last week, grim economic data was met by seeming indifference by the US dollar. After five years of steady depreciation, the greenback has been well prepared for data to confirm what international investors have long expected. However, speculation doesn’t happen in a vacuum; and the deterioration of US fundamentals – and, more importantly, speculation of the eventual rebound – has to be measured against the economy’s counterparts. It is the knowledge that the US economy is already well ahead of the global recession curve, policy officials have shored up the domestic markets with liquidity and guarantees, and the US dollar was hovering at record lows just months ago that will keep the US dollar fundamentally buoyant in the weeks ahead. We have seen conditions just like these many times before – when a bullish market will ignore all bad news but rally when a positive reading crosses the wires and visa versa.

Another source of strength for the US dollar is the constant presence of risk and the currency’s status as a safe haven. While it may seem that the tumble in capital markets has tapered over the past two weeks, volatility (a good measure of fear) has barely budged from historical highs. This is clearly seen in day-to-day dollar price action. The average true range for the dollar index over the past ten trading days has surged to 290 points from 77 at the beginning of September and 106 through the middle of October. This level of volatility isn’t unique to the dollar either. All risk-sensitive pairs have traced exaggerated price swings; and the threat that another momentous trend could develop from these wild market moves is therefore very high.

Knowing that the dollar is fighting the fundamental current, it will be important to measure the probable turning point for the US economy and measure its progress against the Euro Zone, the UK, Japan and other developed nations. This will keep some level of focus on this week’s economic docket. There are a number of notable indicators scheduled for release later in the week; but once again their influence will be distorted somewhat by the perception of risk in the market. The trade balance is no longer a source of optimism after the US dollar appreciated so dramatically and just when the realization that a global recession was dawning on market participants. Far more influential will be the consumer data. Representing the single largest component of GDP and the best hope for the eventual economic rebound, the outlook for American consumption trends will be shaped by October retail sales and the preliminary sentiment gauge for the current month. Forecasts are discouraging on both accounts; but therein lies the chance for an amplified response to a better-than-expected reading.

John Kicklighter a Currency Strategist at FXCM.