We continue to see a higher dollar as the path of least resistance into year end. In addition
to extreme short positioning and some buy signals that we have flagged over the past few
weeks, a number of other supportive factors are starting to come into play. The top-left
chart shows the performance of the dollar over the previous Fed QE episodes and the taper.
With the Fed starting to unwind its balance sheet in October, the previous experiences of
how QE ended is the closest historical analogue we have, given a big deceleration in the
pace of balance-sheet expansion. We can see that the dollar tended to rally as QE episodes
ended, so Fed balance-sheet contraction should also be dollar supportive.
The top-right chart shows that seasonality also supports a stronger dollar, with October and
November the months where the dollar tends to strengthen. Real-rate differentials of other
DM countries with the USD are also stretched vs the DXY index at present, while technically,
dollar breadth has also turned positive. The bottom-right chart shows the advance-decline
line of the dollar (ie breadth) against other DM currencies. We can see that dollar breadth is
now improving, confirming the bounce off the lows in the DXY index.
(Click on image to enlarge.)
Source: Bloomberg, Macrobond and Variant Perception