When we looked at the U.S. dollar last month, we noted the buck was trading near its lowest level of the year.

It had been falling in anticipation of the Federal Reserve Board cutting the Fed Funds target rate.

And, we suspected that once that interest rate cut was out of the way, the dollar would be set up for at least an oversold bounce.

The Fed did indeed cut rates last week – by 50 basis points. Currency traders correctly discounted that move by selling the dollar ahead of time. Since then, however, the buck has bounced.

It’s up 1% in just two trading days – which is a large move for a currency. And, it looks to me like there’s more upside ahead.

Take a look at this updated chart of the US Dollar index (USD)…

(Click here to expand image)

The dollar hit a short-term low right after we wrote about it last month. The bounce off of that low ran into resistance at the 20-day exponential moving average line (the squiggly red line on the chart), and then the dollar started to fall again.

Last week, the buck dropped to a lower low for the year. But, all of the momentum indicators at the bottom of the chart made higher lows.

This sort of “positive divergence” is often an early warning sign that the bearish trend is nearing an end. It’s a sign that a rally is on the way.

Once the Fed cut rates last Wednesday, the dollar started to rally. The buck has bounced back up to the resistance of its 20-day EMA.

But, if it can get above this level, then it’s likely headed higher towards its 50-day moving average (the blue squiggly line) just above $102. An even stronger rally could eventually bring the 104 level into play.

That sort of a move would wipe out most of the dollar’s summertime decline. The buck would turn positive on the year. And, the assets that have rallied as a result of the falling dollar (like precious metals) would give up much of their gains.

Best regards and good trading,

Jeff Clark
Editor, Market Minute