USD: Investors Inclined to Rebuild Longs - SocGen
Research Team at Societe Generale, notes that a rise in USD rates had
been missing from the rebound of the dollar from the early May low but
this now has been partially addressed and in theory gives the dollar a
base to strengthen, in particular as US real yields area also rising.
“EU/US 2y rate differentials have widened over the past week from 104bp to 114bp. Though the Rsquare has dropped to just 0.12 (decreased correlation), it justifies a fair value closer to 1.10 than 1.12.
What could slow a fall in EUR/USD? Answer: the ECB (and a stronger CNY). No new major announcement is expected at the meeting on 2 June. Updated staff projections may even revise up inflation forecasts for this year due to higher oil prices. In March the ECB forecast 2016 CPI at 0.1% based on average oil prices of $34.9/bbl. Oil year-to-date is $38.3/bbl and the H2 futures average is around $49/bbl. In addition, ECB buying of securities will slow over the summer which will diminish the downward pressure on EGB yields and IRS which will limit the spread widening vs UST and IRS.
Long USD positions had been cut more generally against a handful of currencies since the Fed meeting in April with the exception of the JPY and the AUD. CFTC data for the past week shows net USD longs against the EUR were cut from 39,667 to 21,872. Against GBP, net USD longs were cut from 48,669 to 34,935. NZD longs were raised over the plast two weeks from 24,459 to 33,573. USD positions are unchanged against the CAD. Net USD longs were raised vs the JPY, AUD and BRL.
The conclusion is that investors will be inclined to rebuild USD longs if we take last December as a reference point when the Fed tightened for the first time. However, the Fed earlier this year cautioned about too strong a dollar and will be vigilant to counter an excessive appreciation that would hurt US exports, company profitability or reduce the chance of inflation returning to the 2% objective. The frailties of China’s economy also means it is not in the interest of the G7/G20 to let the dollar get too strong.”