Dollar index pushes back above 80.00

The low trade volume and light data flow typical of the holiday season can trigger extreme volatility. Last Friday was no exception, with the dollar index dipping below the 80.00 level. 

GBP/USD hit its highest level since August 2011 - just shy of the $1.66 marker - before staging a retreat below 1.65. Notably, the daily RSI is registering an overbought signal with a mild degree of bearish divergence. Are recent upside moves simply the result of end-of-year flows ? Or is a meaningful breakout on its way?

Looking ahead, the pound could see further upside thanks to the carry trade. With the Bank of England seen as the most likely candidate to hike interest rates in the coming 18 months, the pound could be perfectly positioned as the higher yielding currency.

House prices in the UK continue to climb. An average of 4.4% rise was recorded in 2013. The UK is set to be the top performing economy in Europe by 2028 according to the Centre for Economic and Business Research (CEBR).

The euro also pushed through key resistance at the 1.3833 level, helped by hawkish remarks from ECB member Oliver Weidmann. It’s a little ironic that he believes lower inflation levels shouldn’t invite rate cuts, given that price stability is the central bank’s primary mandate and the disinflation trend is looking problematic.

However, retail sales in the eurozone should raise some doubts over its recovery story. An overall decline for the fourth consecutive month does not bode well.

On the other side of the coin, the US Federal Reserve is set to begin tapering the current quantitative easing programme. This has doubtless been well priced in, but traders will be keen for any clues from incoming Fed chairperson, Janet Yellen.

Last month, pending US home sales data showed a disappointing drop of 0.6%, spreading negative sentiment to the dollar bulls. This afternoon’s release is expected to increase 1.1% on the month – but any miss on this consensus could see dollar weakness take hold.

A break through the top of the current consolidation range at the 80.60 level could put the dollar basket back on track, pushing the euro and the pound lower. Watch closely for any break below the 80.40 level.

US Dollar basket chart

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