Dollar index defends previous lows – double bottom formation in play?

The US dollar surged notably on Friday, bouncing off crucial support, and small gains were also observed during Monday’s EU session.

Focus on US data

US retail sales dropped by 1% month-over-month to $691.7 billion in March, the Census Bureau announced on Friday. This result was worse than the -0.4% decline that had been anticipated by the market and came after a fall of 0.2% in February. The USD was further buoyed by a rise in one-year inflation expectations from 3.6% in March to 4.6% in April, according to the University of Michigan’s Consumer Sentiment Survey.

Investors will be paying particular attention to remarks from central bankers. The Federal Reserve Bank of New York’s Empire State Manufacturing Survey will be the sole statistical item on the US economic agenda.

Furthermore, to address persistently rising inflation, Federal Reserve Governor Christopher Waller has urged for more monetary policy tightening.

“Because financial conditions have not significantly tightened, the labor market continues to be strong and quite tight, and inflation is far above target, so monetary policy needs to be tightened further,” Waller said on Friday.

Meanwhile, futures market pricing indicates that traders expect the Fed to raise rates again by 25 basis points in May with an 84% probability, up from approximately 69% last week.

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Over the previous weeks, softer activity indicators, lower inflation, and less financial sector stress have contributed to the USD’s ongoing decline. According to the minutes from the Federal Open Market Committee meeting in March, Fed policymakers were worried that tougher lending requirements and a drop in sentiment would significantly impact the economy due to the bank failures.

As a result, Goldman Sachs economists wrote in a recent report that the US dollar is at a crossroads because of the likelihood of a rate cut by the US Federal Reserve (Fed), the possibility of an economic downturn, and the Fed’s more dovish tone.

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“So, while the recent USD depreciation is understandable given the recent run of data, we continue to think the amount of divergence being priced in FX markets looks vulnerable. The market is pricing a fairly narrow path of a small slowdown but more accommodative policy, and we think that is likely to come to a fork in the road before too long,” they said.

Bullish reversal soon?

Technically speaking, it is starting to look like a very nice double bottom pattern, with the support line near 100.80. As long as the dollar index trades above that level, the immediate outlook could be cautiously bullish. The immediate target could be at 103.00.

On the other hand, if we see a decline below 100.80, it could lead to another wave lower, likely pushing the dollar index into the double-digits area.