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What Seasonality Says About the US Dollar

Discussion in 'Forex Discussions' started by painofhell, Oct 30, 2015.

  1. painofhell

    painofhell Content Contributor

    Jun 24, 2015
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    Having an understanding of seasonality can be very helpful to Forex traders. Seasonality is an understanding of how specific markets perform at certain times of the year. Think retail stocks around Christmas. They are often said to have a “Santa Clause Rally”, as people buy more than normal at these stores causing the stock of these companies to rise. Another seasonal effect is the “January Effect,” where there is a traditional outperformance in stocks as fund managers starting with a clean slate start buying for the new year in unison often pushing the price higher.

    However, new traders should note that seasonality is not a given. Seasonality is a trend meaning that over the years, we tend to see a specific pattern, but some years may not exhibit the common pattern. The common seasonal trend in the US Dollar for October is weakness. In fact, over the 12-month calendar, October has historically been the second worst month of the year on average, second to April.

    Over the last five years, the QE-era of 2011-present US Dollar has shown increasing weakness against commodity currencies vs. the seasonally weak USD.

    Seasonality is a probability driven event. A probability event means that risk management is a key priority, because the future is uncertain. Often, traders can get trapped trying to divine the future, but really, managing risk is more important because anything can happen even if you feel that you have a good grasp on the future. However, seasonality can give you a bias going in and if you find confirmation through an opening range breakout or price moving over a shorter-term moving average like an 8-day, 13-day, 21-day.

    It’s important not to follow seasonality blindly.

    You may end up lucky, but we’ve seen seasonality fail to follow through. For example, in October 2014, US Dollar did start to move lower after a multi-month move higher, and many thought a top was in place. However, on October 15, 2014, a short-term bottom went in and the US Dollar continued virtually unstopped until toping out in March of the following year.

    For the month of October in 2015, a similar pattern to 2014 looks to be playing out again. Last year, the US Dollar low was on October 15th before zooming higher. If you remember, we also saw a flash crash in fixed income and stocks, which were quickly retraced and new moves higher soon resulted. Currently, the monthly low was on October 15th, and we recently had a Federal Reserve Federal Open Market Committee (FOMC) that kept a bid under the US Dollar when December was kept on the table for a potential rate hike before year-end. Recently, the strongest average month for the US Dollar is May.

    Another way to help you see if USD weakness is developing again is to watch Stock market strength into year end. Stocks typically end the year on a strong note and have held a weak but present inverse correlation with the US Dollar. Should the common seasonal patterns of weakness play out, you would likely see equities rise along with US Dollar breaking lower.

    Either way, seasonality is helpful, but not a cure-all. It is best to look for confirmation for a season pattern playing out as expected. Helpful methods for looking to confirm a seasonal move would be either an opening range breakout, technical confirmation like a moving average cross-over, or a correlated market moving in a direction that helps to validate the season pattern that can lead to a great trade.

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