The U.S. dollar is moving to a 13-year high. This is breaking news, and medium to long term consequences of this event should not be underestimated.
In general, the U.S. dollar has an inverse relationship with commodities. As the dollar rises, commodities tend to sell off. Because of that, a rising dollar is said to be deflationary.
As explained in Copper Price At Secular Breakout Point, copper is about to start a new bull market.
The question top of mind by many investors is whether this ‘makes sense’: how is it possible for copper to rise along with a rising dollar?
The answer to that question is very simple: the dollar is rising at a time when fear assets are sharply (!) declining. With fear assets, we refer to gold, the Yen and treasuries. Because of that, risk is returning to the market. That is the underlying reason why fear assets are being sold.
The ‘confusion’ here is that a strong dollar can be driven by two totally distinct forces: it can either be driven by deflationary forces or it can be driven by risk appetite. Similarly, a rising gold price can either be inflationary or it can act as a fear asset.
That is why the key challenge of investors is to understand the intermarket dynamics when interpreting a rising dollar. In other words, investors need to interpret a rising dollar in the context of trends in other leading assets/markets.
We identified back in August that the primary market trend would be ‘risk on’, and that rising yields would the primary driver. That is a key insight as it suggests that the U.S. dollar moves as a result of rising yields. Yields are leading, the dollar is a follower. It is exactly at this point where most investors get confused, as, in their mind, a strong dollar means by definition that it is bad for commodities. That is only partly correct. For instance, it was correct last year, when the dollar’s rally was the primary market trend, but today’s strength in the dollar is a secondary trend (as said, rising yields are the primary trend).
So today, the dollar, which is primarily driven by rising yields and growing risk appetite, can perfectly rise along with a rising copper price. It makes ‘perfect sense’ for copper to enter a new bull market, gold to sell off as the dollar breaks out to multi-year highs.
