FX Daily: Evaluating Short-Term Dollar Bearishness and Potential for Rebound

FX Daily: Short-term dollar bearishness remains unconvincing

We remain a bit reluctant to chase the dollar lower. The greenback still has to catch up with recent market dynamics – higher US rates in particular – and the scope for further dovish repricing in the USD curve is not broad. This week’s US CPI is undoubtedly a risk event, but we don’t see a EUR/USD move above 1.1000 as being very sustainable just yet.

 

USD: Room for a rebound

Last week saw the dollar trade on the soft side amid mixed data from the US. The latest and most important release, the US payrolls figures for June, came in a bit weaker than expected, but the jobs market likely remains too tight for the Fed to backtrack on a July hike. After all, the headline print was solid (+209k) and with wages remaining high and unemployment moving lower, there aren’t many strong dovish arguments to be extrapolated from the June jobs report.

We are still reluctant to chase the dollar lower from this point – not particularly because we expect incoming data (US CPI above all) to surprise on the upside, but because the dollar still has to catch up with some recent market dynamics. Front-end US treasuries arrested their selloff, but remain very close to 5.0%, and 10Y UST are at the 4.0% benchmark level. Equities have also shown some signs of instability since the start of July. All of this should, in theory, put the dollar in a solid position to rebound from the current levels – especially given there isn’t much room for a further dovish re-pricing in the USD swap curve. That currently factors in 35bp of tightening to the peak, still short of the 50bp signalled by the Fed in the latest dot plot.

The big risk event for the dollar this week is the June inflation report on Wednesday. Our economist expects a consensus 0.3% month-on-month core read, which should keep providing encouraging news on the disinflationary story – but should still fall short of tweaking the Fed narrative or convincing markets to price out a July hike.

A downside inflation surprise could see DXY test the 101.00 April lows, but we think that the dollar could instead find some support into the CPI release and stabilise in the second half of the week. Today’s calendar includes some Fed speakers: Michael Barr, Mary Daly, Loretta Mester and Raphael Bostic.

Elsewhere, we expect the Bank of Canada to hike by 25bp this week. This is far from a consensus view, with the pool of economists split between a hold and a hike and markets pricing in around 67% of implied probability of an increase. We explain our reasons in our latest Bank of Canada meeting preview.