US Dollar (DXY) Hanging on by a Thread

Talking Points:

– JPY-crosses (AUD/JPY, NZD/JPY, USD/JPY) sojourn in converging patterns; calm required.

– DXY Index relapse heavily fortuitous on EUR/USD cost action.

– Get a DailyFX Trading Guides for a 2017 Trades of a Year and Q1’17 FX forecasts.

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The US Dollar stays vulnerable. While cost movement yesterday in DXY Index was looking constructive – by and vast built on topping-like cost movement in EUR/USD – a miss of follow to a topside, and successive reversal, leaves a greenback unresolved on by a thread. To be clear, nothing of a US Dollar debility has to do with a Federal Reserve directly; as was a box in a days following a US elections in November, dual rate hikes sojourn labelled in for this year: Jun and Dec 2017 (per Fed supports futures).

Previously, towering US yields were a motorist behind US Dollar strength. But as a “Trump reflation trade” has depressed off march over a past integrate of weeks – especially due to a miss of transparent process signaling from a White House – we’ve seen a greenback decouple from US Treasury rates. The assembly of fast US yields, a weaker US Dollar, and rising Gold prices indispensably points to one conclusion: markets are feeling that domestic risk is creeping in on a US economy.

Chart 1: US 2-year Yield contra US Dollar (DXY Index) 2-hour Timeframe (November 2016 to Jan 2017)

US Dollar (DXY) Hanging on by a Thread - What's Next?

The fact stays that a “Trump reflation trade” was fortuitous on unconditional taxation remodel and an infrastructure impulse program; in other words, a call of necessity spending. As per a Mundell-Fleming horizon (or IS-LM-BOP model), given a United States’ high collateral mobility, lax mercantile process should lead to a arise in inflationary pressures, that in spin should obligate tighter financial process from a Federal Reserve.

Yet now that a timing and gait of mercantile remodel is underneath question, this marketplace feedback resource (expectations of looser mercantile process = expectations of tigher financial policy) is underneath pressure. With Republicans eying a dissolution of a Affordable Care Act (“Obamacare”) some time in Mar or April, and intraparty tensions rising opposite a domestic spectrum, it now seems some-more expected that an infrastructure spending check won’t seem until a finish of 2017. As for taxation reform? Reuters reports that “senior congressional aides pronounced a open of 2018 competence be a some-more expected time than this year for a thoroughfare of legislation.”

In other words: a market’s wish for a call of large impulse (via taxation remodel and infrastructure spending) that has fueled a “Trump reflation trade” might be evaporating. The changeable timeline here is undermining a market’s faith in US Dollar strength, period.

See a above video for a contention on because US yields have decoupled from a US Dollar, as good as for technical considerations and specific levels of significance in DXY Index, Gold, EUR/USD, GBP/USD, USD/JPY, AUD/JPY, NZD/JPY, and CAD/JPY.

Read more: FX Markets Set for Volatility Bump with BOJ, FOMC, BOE, and US NFPs

— Written by Christopher Vecchio, Senior Currency Strategist

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