The Next Dollar Problem

US Dollar and Oil

We’re two days away from the May Fed Open Market Committee meeting. I’ve already started tailgating. Well, I did eat a bag of Organic Tostitos and some salsa, so not really tailgating, and more breaking my diet. 

The central bank will issue its update on interest rates at 2 pm on Wednesday. Then Fed Chair Jerome Powell will issue a statement at 2:30 pm. I don’t know what will happen after the Fed makes its announcement. The market has already priced in a 50-basis point hike.

And to add more mystery to the market, the U.S. dollar just had its strongest monthly run in decades. The greenback is now at its strongest relative level since 2003. What I do know is that the market wants to move higher ahead of the Fed meeting. Let me explain…

Anomaly Central

As you know, I follow all market anomalies. I trade momentum (which is still red on Monday afternoon). AndI love value. I like to exploit insider buying patterns. I trade small-cap value as an anomaly in itself (these stocks tend to outperform largest companies over the long run).

But there’s one anamoly that I’ve been watching. I hope it does return to the market. It’s called the Pre-FOMC Drift anomaly. 

In 2011, two academics released a paper stating that markets liked to rally over a 30-year period during a very distinct trading window. The paper suggested that the FOMC announcement day was responsible for half of all equity returns over the last few decades. 

That said, the Fed’s injection of capital into the market over the last decade had weakened the trend. My question is whether that will return. Today, we saw a late market rally into the close – with a huge series of candle moves on the SPY (the S&P 500 ETF). 

Given that the markets hit oversold territory and investors have been net sellers in recent months, I’m starting to think that we could see a nice move higher into the Fed meeting.

That said, you need to continue to follow broad market momentum. I will know the exact moment when momentum turns positive, so anything without a strong break out of the negative channel combined with higher volumes is likely to be just another Bull Trap. Exercise caution. 

The Dollar Oil Problem

WTI crude oil prices popped back above $105 Monday. I’ve received plenty of questions about oil due to China’s COVID restrictions and OPEC’s meeting this week. 

I remain very bullish about crude prices for the summer. Remember, the global oil markets face high costs of capital, supply chain problems, and significant dislocation due to the Russian-Ukraine war. The thing holding back oil prices right now isn’t China. It’s the U.S. dollar. 

The dollar just had one of its strongest months on record. The Dollar Bullish Index (UUP) just rallied to its highest level since the race to cash witnessed during the COVID-19 crash.

Cash is legitimately king. If anyone has any concerns about the dollar’s reserve status, they can lay those to rest. Money is flooding into dollar-denominated assets as concerns about sovereign debt spread around the globe like wildfire.

A strong dollar keeps a lid on oil, natural gas, and other commodity prices. It also helps Americans buffer some of the supply chain and inflation shock. If the dollar wasn’t on this run, oil would be much more expensive. 

I do worry that this dollar run will break. In fact, it has to. If the dollar gets too strong against other currencies, it can create significant currency risk for multinational companies that must manage their Forex risk. 

This is just one more unforeseen challenge for companies in 2022. I’ll talk more about how to trade oil on Tuesday.

Garrett Baldwin
Garrett Baldwin
Garrett Baldwin joined Godesburg Financial Publishing as Chief U.S. Markets Analyst in early 2021. A Johns Hopkins-trained Economist, he’s worked with hedge funds, venture capital firms, angel investors, and economic advisors to the U.S. government. Baldwin specializes in market anomalies and alternative investments. He’s written extensively on momentum, value, insider buying, and other unique strategies that provide investors that elusive edge.
Garrett Baldwin
Garrett Baldwin
Garrett Baldwin joined Godesburg Financial Publishing as Chief U.S. Markets Analyst in early 2021. A Johns Hopkins-trained Economist, he’s worked with hedge funds, venture capital firms, angel investors, and economic advisors to the U.S. government. Baldwin specializes in market anomalies and alternative investments. He’s written extensively on momentum, value, insider buying, and other unique strategies that provide investors that elusive edge.

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