US Dollar Price Talking Points:
- The DXY Index touched a fresh monthly high on Tuesday, drawing into focus a potential bullish breakout opportunity around the May FOMC minutes release midweek.
- US-China trade war tensions remain, but beyond verbal jousting, no new measures appear on the horizon.
- Retail traders are selling US Dollar strength, suggesting that the bullish breakout attempt may have legs.
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The turn through the middle of May has brought about a new wave of US Dollar strength, largely mirroring the rise in US Treasury yields in recent days. With the British Pound proving volatile around the latest Brexit headlines and the Euro proving weak in the run-up to the European parliamentary elections, The DXY Index was able to post a fresh monthly high on Tuesday, drawing into focus a potential bullish breakout opportunity around the May FOMC minutes release midweek.
US-China Trade War Latest
After surprise developments over the past few weeks, the day-to-day movement on the US-China trade war seems to have slowed considerably. But now that the Trump administration has drawn Huawei into the US-China trade war, it’s clear that we’re still in the process of further escalation, not de-escalation. That’s to say that neither country is ready to move past the impasse. For markets, indeed, US-China trade war tensions remain, but beyond verbal jousting, no new tariffs appear on the horizon.
As noted previously, market participants shoukd to keep on eye on USDCNH prices for the foreseeable future as a gauge for trade tensions: China has used devaluation as a tool to neutralize the impact of the tariffs. Accordingly, traders may see Chinese Yuan strength (USDCNH weakness) as a sign that the trade tensions are de-escalating; and that Chinese Yuan weakness (USDCNH strength) may be interpreted as a sign that the trade tensions are escalating.
Ahead of May FOMC Minutes, 2019 Rate Cut Odds Fall (Table 1)
During the May Fed meeting and press conference at the start of the month, Fed Chair Jerome Powell said that low inflation was “transitory” and not “persistent.” At the time on May 1, market participants interpreted this as a sign that the likelihood of a 25-bps rate cut this year is lower than previously expected: odds of a cut by September had fallen to 26% and odds of a cut by December were 50%.
Now, ahead of the May FOMC minutes, Fed funds futures are pricing in a 42% chance of a 25-bps rate cut in September and a 70% chance of a cut by the end of 2019. But given that the May Fed meeting itself provoked markets to reduce expectations of a cut this year, we would expect the sentiment taken in the May FOMC minutes themselves to be more optimistic than what rates markets are currently pricing (which may serve to the US Dollar’s benefit).
US Inflation Expectations Have Dipped Alongside Oil Prices (Chart 1)
Against a backdrop where the US Dollar has rallied over the past year (DXY Index is up 4.7% over the past 52-weeks), FX markets are a headwind for US inflationary pressures. With the oil prices moderating over the past few month, inflationary pressures have been limited. Crude oil prices fell by -5.3% between April 23 and May 21, down from 66.30 to 62.77. As a result, medium-term US inflation expectations, as measured by the 5y5y inflation swap forwards, are down by -9.3-bps from 2.299% to 2.205% over the past four-weeks. These developments may prove troublesome at the June Fed meeting, but not in the May FOMC minutes.
US Dollar Net-Long Futures Positioning Persists (Chart 2)
Looking at positioning, according to the CFTC’s COT for the week ended May 14, speculators decreased their net-long US Dollar positions to 26.7K contracts, down from the 28.2K net-long contracts held in the week prior. Net-long US Dollar positioning has barely wavered since the start of the year: traders held 32.4K net-long contracts on January 1; and positioning remains below its 2018 high set during the week ended November 13 at 40.5K net-long contracts.
DXY Index Technical Analysis: Daily Price Chart (June 2018 to May 2019) (Chart 3)
It appears that the sideways range that the DXY Index carved out in the month of May is being tested to the upside. Price has already established a fresh monthly high today above 98.10, the bearish outside engulfing bar high from the April US NFP report release on May 3. Since the start of the month, we have not seen price close below 97.15, the low from May 1, keeping the sideways consolidation in check. A move through 98.10 increases the odds of a return back to the yearly high set on April 25 at 98.32 over the coming sessions.
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— Written by Christopher Vecchio, CFA, Senior Currency Strategist
To contact Christopher Vecchio, e-mail at [email protected]
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