Dollar Trend-Following 101

Keep it Simple Stupid. Ah, the KISS Method. Such valuable and absolutely timeless advice. And so annoying too. Maybe it’s an age thing. You reach a certain age and there are things that you have heard so many times (“Keep it Simple Stupid”, “Hard work is its own reward”, “Wow, our government sure spends a lot of money”) that even though their wisdom is obvious, you find yourself more irritated than enlightened.

So if you’re cranky like me please forgive my invocation of KISS. The U.S. dollar is the world’s benchmark currency – the movements of its price has a lot of implications, for trade, commodity prices, and interest rates and so on. So it can be useful to have some idea of where it is headed.

The bad news is that “predicting” where the dollar (or any other tradable security for that matter, but I digress) is headed next is difficult at best. The good news is that simply knowing the current trend is typically just as useful. So this piece will look at a simple trend-following method for the U.S. dollar.

Our benchmark is PowerShares DB US Dollar Bullish (NYSE:UUP) (See top clip in Figure 1) – an ETF that tracks the price of the U.S. dollar against a basket of currencies.

*Indicator #1: PowerShares DB US Dollar Bearish (NYSE:UDN) (See middle clip in Figure 1) – Ticker UDN is an ETF that tracks the inverse of the U.S. dollar.

*Indicator #2: Jay’s ANTIUS3 Index (See bottom clip in Figure 1) – This index is comprised is comprised of tickers Guggenheim CurrencyShares Euro (NYSE:FXE), Guggenheim CurrencyShares Swiss Franc (NYSE:FXF), SPDR Barclays International Corporate Bond (NYSE:IBND), iShares International Treasury Bond (NASDAQ:IGOV) and PowerShares DB US Dollar Bearish (NYSE:UDN) – all of which trade (somewhat) inversely to the U.S. dollar (typically).

*We will apply a simple 5-week and 30-week moving average to both indicators.

Figure 1 – U.S. Dollar (ticker UUP); Inverse U.S. Dollar (ticker UDN); Jay’s ANTIUS3 Index

*For UDN when the 5-week average is BELOW the 30-week average that is considered BULLISH for the U.S. dollar and vice versa.

*For ANTIUS3 when the 5-week average is BELOW the 30-week average that is considered BULLISH for the U.S. dollar and vice versa.

h3 Gauging The Dollar Trend/h3

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*If the 5-week average is below the 30-week average for EITHER ticker UDN or ANTIUS3 then the trend for the U.S. dollar is designated as BULLISH.

*If the 5-week average is above the 30-week average for BOTH ticker UDN or ANTIUS3 then the trend for the U.S. dollar is designated as BEARISH.

Figure 2 displays the growth of $1,000 invested in ticker UUP when the trend is deemed BULLISH (red line) versus when the trend is deemed BEARISH (blue line).

Figure 2 – Growth of $1,000 invested in UUP when trend is BULLISH (red line) versus when trend is BEARISH (blue line); Feb2007-present

Figure 3 displays a closer look at the blue line in Figure 2. As you can see, when BOTH UDN and ANTIUS3 are BULLISH (i.e., the 5-week average is above the 30-week average for both), the dollar rarely makes much headway.

Figure 3 – Not much good happens for the dollar when UDN AND ANTIUS3 are trending higher; Growth of $1,000 invested in ticker UUP when BOTH UDN and ANTIUS3 5-week average is above 30-week average (Feb2007-present)

At the moment the 5-week average for BOTH UDN and ANITUS3 are above their respective 30-week averages so by this measure the trend for the U.S. dollar is presently “Bearish.” So does this mean the U.S. dollar is doomed to fall precipitously from here? Nope. It just means that at the moment the major trend of the dollar is bearish

h3 Summary/h3

Please note that this “method” is not presented as a way to trade the U.S. dollar, per se. It is simply intended as a way to filter all of the noise. i.e., when you hear something along the lines of, “and in today’s news the U.S. dollar was down sharply even despite [some highly regarded analysts’ name here] insistence that the trend is due to change at any moment and rally sharply for at least 3 to 6 months before resuming the next leg down following [said analysts prediction of something that will happen in the future that is certain to impact the dollar at that time].”

Instead of trying to decipher all of that. Just ask, “What’s the trend right now.”

Trust me – You won’t always be right, but you’ll be a lot less cranky.

Written By: Jay Kaeppel