The US dollar remains strong, as the most interest-bearing currency from among the developed countries. The effective federal funds rate is 2.4 percent, while in Canada the rates are 1.75 percent, in Australia and New Zealand 1.5 percent, in Great Britain 0.75 percent, and in the eurozone, Japan or Switzerland we even have negative interest rates.
It seems that, for this reason, higher interest rates in the United States and still relatively low volatility, investors can potentially profit from maintaining long positions in the US dollar. Then they can also receive positive swap points for each day keeping such a position on the market. What's more, the currency of the United States may be considered by some as so-called safe haven for uncertain times due to the escalation of the trade conflict, which may additionally increase the demand for USD.
As a result, the EUR/USD exchange rate was close to the levels from the beginning of May, the AUD/USD exchange rate is the lowest since January, and the AUD weakness additionally supports the expectation of interest rate cuts in Australia as early as in early June. Also the British pound in relation to the US dollar fell to the lowest level since the beginning of the year, which is supported by increased uncertainty about Brexit conditions and who will be the prime minister of Great Britain if Theresa May resigns. Therefore, in addition to local factors that seems to be positive for the dollar, the US currency is also strong due to the weakness of other currencies.
Nevertheless, there are also arguments that could affect the weakening of the dollar. First of all, the interest rate market is pricing-in with a 65-percent probability that interest rates in the US will be reduced until December. In order for this argument to translate into the currency market, in the other economies we would have to observe a neutral, not a dove, tone in the context of monetary policy. It is also worth paying attention to the fact that long-term inflation expectations in the US have fallen to the lowest level since January. Thus, the trade war may, according to the market, not significantly affect the price increase. And finally, extreme positioning on the futures market, which suggests that in relation to the euro the last time in 2012, 2015 and 2016 we observed so many willing to trade to weaken the euro and strengthen the dollar. Then it ended with a strong turn.
At present, however, it seems that the factors behind a further, strong increase in the value of the US currency are slightly less than those that may stand behind its weakening in the near future.
Daniel Kostecki, Chief Analyst Conotoxia Ltd.
Materials, analysis and opinions contained, referenced or provided herein are intended solely for informational and educational purposes. Personal Opinion of the author does not represent and should not be constructed as a statement or an investment advice made by Conotoxia Ltd. All indiscriminate reliance on illustrative or informational materials may lead to losses. Past performance is not a reliable indicator of future results.
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