USD has probably made a cycle low – Westpac

The US dollar traded poorly in Nov and Dec, despite yield spreads favouring gains, but US treasury yields have continued to rise in Jan, supporting expectations for an eventual sustained rebound in the USD, explains Imre Speizer, Research Analyst at Westpac.

Key Quotes

“As we write, the DXY index is forming a tentative base, but the key event for USD markets this week will be the Dec CPI data on Fri. There’s also retail sale data the same day. AFter that, the next major data releases are not until GDP (27th) and the core PCE deflator (30th).”

“3 months ahead: H1 2018 looks fertile for USD upside. Yield spreads should continue to broadly trend in the USD’s favour with tax cuts and still very accommodative financial conditions underwriting solid growth outcomes. Real time estimates for Q4 GDP are tracking around 3%. If realised, that would make for three consecutive quarters of 3% annualised growth, a feat not yet achieved in the post-crisis era.

Fed speakers are unlikely to pre-commit Powell to an immediate March hike (his first as chair) but markets can still err toward pricing more Fed hike risk in H1 2018 (currently +25bp by June). Growth should continue to track near 3% thanks to solidly supportive financial conditions while the voting regional rotation schedule turns markedly more hawkish: 2017’s crop of strong dovish voters such as Kashkari and Evans are replaced by the hawkish Mester and centrist Williams.

Thus, the USD index could see another 4-5% upside, putting it within striking distance of 100 in H1 2018.”