USD: Further strength? – Nordea Markets

After two weeks of heavy buying, the USD was dented after a weaker-than-expected core inflation number, while the core inflation spread is generally leading the EUR/USD, and we are likely to witness the widest core inflation spread ever later this year, according to analysts at Nordea Markets.

Key Quotes

“This would normally be good news for the USD, unless the Fed has come under control of the White House. The hawkish rhetoric in Fed Chair Powell's speech on global capital flows, as well as the nomination of Clarida to the FOMC puts two final nails in this coffin however.”

“Some dollar positives should however be fading. The difference between EA data and US data hasn't been this wide since early 2012, and a rebound in the EA surprise index might moderate the upside in the dollar. The outright difference will still favour some more near-term upside in the dollar however, as it will take time for the wide gap to close. Also, we must not forget that EA growth expectations have started to drop, and will drop further - this might influence real money reallocations.”

“In the (much) bigger picture, there's the lingering question why the dollar has been gaining, and why now. The US economy has been outperforming the rest of the world – but primarily due to disappointments elsewhere rather than positive surprises in the US - this is surely one reason behind recent USD strength. But we also know that a stronger USD hurts risk-taking in other parts of the world, so the relationship also goes the other way. And truth be told, the Fed's QE has been a real-time experiment with only one data set, and the Fed is now finally unwinding its balance sheet at a quicker and quicker pace, which might be the biggest elephant in the room. This year's shift in US excess liquidity momentum predicted wider credit spreads, predicted emerging market volatility, and it is predicting further dollar strength.”