The Dollar and Copper Show Why Stock Markets Might Be Getting Ahead of Themselves - TheStreet.com

This week saw the S&P 500 rally to its highest levels of the year, but the most revealing signals about the state of the current global economy -- and where stock markets are headed -- can be found elsewhere: in the dollar and copper.

Shown below is the five-year chart of the PowerShares DB US Dollar Index Bullish (UUP) , an exchange-traded fund that tracks the value of the dollar against a basket of six major currencies. The ETF has been forming a large topping pattern since early 2015. The Federal Reserve has frequently changed its economic outlook, and this has partly contributed to the heightened volatility in financial markets in the past few years.

With the U.S. economy growing at a slow pace and savings outpacing investment, it looks as if the Fed will keep its rate hikes limited in 2016. The expectation for a slower pace of rate hikes has pressured the dollar lower against many of its peers. (When a nation's central bank raises interest rates relative to those of other countries, it tends to cause that nation's currency to increase in value.)

Meanwhile, the price of copper has been falling, even as dollar has been pressured. Copper is traditionally seen as a good gauge of global economic and manufacturing health due to its importance in all phases of production. While the iPath Bloomberg Copper Subindex Total Return Sub-Index ETN (JJC) , an exchange-traded note designed to track copper prices, has rallied by as much as 20% in 2016, it is now resuming its trend lower.

Both the greenback and copper signal a lot about the current state of the global economy. The U.S. economy was steadily improving, and Fed policymakers had hoped to be more aggressive in raising interest rates in 2016 after years of holding its target interest rate near zero.

Due to weakness in the global economy and deteriorating investor sentiment amid less government support, Fed policymakers were forced to dial back optimism, and join the rest of the world's central bankers in keeping conditions accommodating.

Additionally, declines in the price of copper signal that for all the economic data out there signaling improvements, true barometers are forecasting continued weakness. Policymakers can put a positive spin on anything, but if the price of copper continues to fall, even as the dollar weakens, there is little sign manufacturing and trade revenue across the globe will rise significantly.

Although markets are trying to accurately price assets in the current trading environment, it seems premature to think stock markets deserve to be at new highs anytime soon.