Is that it?
The defining feature of FX markets recently has been the deterioration in the US Dollar. A slight moderation in US yields has accompanied a shift lower in DXY. However, with the Dollar sell-off not maintaining an overwhelming degree of momentum, questions over the longevity of this shift in USD’s value are creeping in. When we look at any traded currency, we cannot look at it within a vacuum. Although single currency indexes such as DXY mentioned above exist, they are still overwhelmingly influenced by the underlying currency pairs traded in the market. In the case of the Dollar, it is foolish to analyse the Dollar without a consideration for EURUSD.
Looking at swaps within EURUSD, we can see a very concerning feature. Premiums favouring the Dollar within EURUSD swaps have not deteriorated significantly to justify the rally in the currency pair seen since the October lows. The Euro itself since the ECB’s last decision to pause rate hikes has not seen any degree of interest rate-driven demand. So, it would be tricky to conclude that the deterioration in market derived rates has been the driver of the Dollar’s most recent correction. With the correlation between bond yields and FX shrinking, it would not make a compelling argument for any further Dollar selling at this stage solely on the back of declining US yields.
Instead, markets are likely to be looking towards the US consumer for their nod on the Dollar. The level of savings accrued by the US (as well as other) consumers during the pandemic was a key driver of the post-pandemic economy. We know from survey data that economic activity may be at an inflection point. We also know that the healthy pot of savings accumulated by the public has shrunk significantly. Instead of rates therefore, it seems that soft data will be the driver of any short-term shift in the Dollar.
Discussion and Analysis by Charles Porter
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