Stock Index Futures and the US Dollar

Name: Alan Bush Company: Archer Financial Services

Years Trading: 32

There is a current misconception among some of the stock index futures bears that the only reason that equity index prices have been so strong is because of the persistent weakness in the U.S. Dollar. They maintain that overseas investors have an incentive to buy U.S. dominated assets due to favorable exchange rates that allow them to purchase more U.S. assets with their appreciating home currency. There is some truth to the comparative exchange rate differential advantage that foreign investors currently enjoy when investing in U.S. assets. Since the major lows for North American stock indexes were made in early March of this year, there has been a strong inverse relationship between the price movements in the greenback and stock index futures. The U.S. dollar index and the S&P 500 charts below clearly show this strong inverse relationship, especially since March of this year.                                                       

To the casual observer the very weak trend for the U.S. Dollar from March until very recently appears to the main reason, or possibly the only reason that stock index futures have been so strong. Although the price movements of the U.S. Dollar are important and can accentuate movements in stock index futures, our work suggests that currency exchange rate considerations are almost always of secondary importance. By using very simple logic there is one easy way to test out this belief.

Let’s take a look at some of the overseas stock markets and currency relationships. For example, let’s analyze the relationship between the German DAX stock market and the price trends for the Euro currency.  The DAX is a total return index of 30 selected German blue chip stocks traded on the Frankfurt Stock Exchange. If it is true that U.S. stock index futures are strong mainly because of a falling U.S. Dollar, then it would be logical to assume that a strong Euro currency would exert substantial down side pressure on the German DAX stock market. However, when we take a look at a chart of the DAX, we find that this market has recently made new highs for the year and looks very similar to a chart of the S&P500 futures even though the euro currency has been very strong.

 
The question that must be asked is; if the value of a country’s currency determines the price movements for a country’s stock index futures market, why isn’t the DAX making new lows now, instead of the new highs that we have recently seen? This lack of consistency in the currency/stock index inverse relationship causes us to  continue to believe that this new bull market in global stock index futures is not being driven primarily by fluctuations in currency exchange rates and that there must be other main drivers of price direction.

Can Stock Index Futures Continue to Rally?

Once again we must revert to our fundamental analysis that places very little emphasis on foreign exchange rate fluctuations. There must be something else that determines stock index futures price trends. Our analysis suggests that an in depth study of interest rate trends is where some of the clues are hidden.

In fact, much of our research does focus on interest rate market trends, which continue to show that the worst of the global economic downturn is behind us and that we can expect the majority of the economic and corporate earnings reports, for the balance of this year and though 2010, to be stronger than the consensus view. Also, most of the recent economic reports, from both a domestic and global perspective, have strongly suggested that we are in the early stages of a global economic recovery. There are clear indications that a new multi-year bull market for stock index futures has begun and that foreign exchange market fluctuations may only, from time to time, limit or exaggerate moves in this ongoing global bull market for stock index futures.                                     

If you would like more information about the commodities in this article, please contact Alan at 1.800.243.2649 or send him an email at alan.bush@archerfinancials.com

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Futures and options trading involve significant risk of loss and may not be suitable for everyone. Therefore, carefully consider whether such trading is suitable for you in light of your financial condition. The views and opinions expressed in this letter are those of the author and do not reflect the views of ADM Investor Services, Inc. or its staff.  The information provided is designed to assist in your analysis and evaluation of the futures and options markets.  However, any decisions you may make to buy, sell or hold a futures or options position on such research are entirely your own and not in any way deemed to be endorsed by or attributed to ADMIS. Copyright © ADM Investor Services, Inc.

About the Author

Alan Bush has been a commodity analyst since 1976 focusing on the fundamental and technical aspects of stock index, interest rate and foreign currency markets. He has authored several articles for Stocks Futures and Options magazine and produced the “Futures Tech Focus” program, which is a technically based market outlook.

Alan served on the faculty of Oakton College as instructor of a course entitled, “Principles of Technical Analysis.” He has been interviewed on many national television programs, appearing on the Nightly Business Report, CNBC, CNN Moneyline, Reuters Television and Web FN. In addition, he has been frequently quoted in The Wall Street Journal, USA Today, The Bond Buyer and the Chicago Tribune and has been regularly interviewed on Chicago’s WMAQ radio business reports.

Alan can be reached at (312) 242-7911, or via email at alan.bush@archerfinancials.com.