The U.S. Dollar is up sharply against most major currency as investors continue to cut exposure to higher risk and higher yielding assets. Some traders are calling this the start of a major bottom. Others feel that this is end-of-the-year liquidation and profit-taking after a prolonged move down.

It is also possible that this is the start of a short-squeeze which could lead to a massive short-covering rally. Over the past few months traders have jumped onboard the “short Dollar” train because lower interest rates continued to point toward a lower Dollar over the long run. Short-term oversold technical indicators may have caught many of these traders by surprise. The absence of major economic reports in the U.S. and Europe this week may have created overconfidence in traders who were caught off guard by comments from the Fed’s Bernanke and the European Central Bank’s Trichet. I

Traders began getting nervous earlier in the week after Fed Chairman Bernanke mentioned his concern about the value of the Dollar in a speech. This was followed by supportive comments from European Central Bank President Trichet who used a speaking opportunity to announce his agreement with Bernanke while trying to talk up the Dollar.

Another background story affecting the Dollar is the possibility that China may adjust its currency upward to reflect its stronger economy. While China remained hard-nosed about its currency this week when pressed by President Obama to change its ways, speculators seem to be willing to bet that China would eventually cave into international pressure and make a small adjustment in how it pegs its currency.

The combination of these events is giving traders an excuse to lighten up their short Dollar positions. Technically, a close over 75.42 will form a closing price reversal in the Dollar futures index. A follow-through rally next week will confirm the short-term bottom and could lead to a 2 to 3 week rally.

The EUR USD is trading weaker and is now inside of a key retracement zone at 1.4837 to 1.4787. The trend is still up despite the numerous sell-offs this week. The main range is 1.4625 to 1.5049.

The downside momentum in the GBP USD suggests that this market is headed to 1.6292 to 1.6154 before any strong buying resurfaces. The main trend turned down on the daily chart when this currency broke 1.6515.

The USD CHF continued higher today. Today’s early surge took out 50% resistance at 1.0186, but the .618 retracement level at 1.0222 stopped today’s rally.

Falling demand for higher yielding assets is triggering a sharp sell-off in the Australian Dollar. Today’s weakness took out a retracement zone at .9155 to .9096. After the market reached the low at .9060, conditions became oversold, triggering an intraday short-covering rally.

The NZD USD also took out a key retracement zone at .7302 to .7250 before becoming oversold. Regaining .7250 could trigger additional short-covering into the close.