pile of american paper money on black surface

In our FX review this week, we talk about the continued move higher in USD crosses, the reasoning behind this and where it could go from here.

Only Heading Higher

The main story from last week was the continued USD strength seen across the board. In EM FX, crosses like USDZAR made considerable moves, but even in the G10 space there was big levels broken. Particularly as we came to the end of the week, stops being triggered saw deep losses on pairs such as GBPUSD.

Before we go into this in more detail, it’s important to understand why this is happening. The main driver behind the move is the rise in US yields. The US 2yr broke to 2.75%. Although longer dated bonds such as the 10yr and the 30yr didn’t move as much, the selloff in the bond market is causing yields to pull higher. The USD is most sensitive to moves in the short end of the curve, i.e the 2yr and below. This reflects the more immediate likelihood of achieving a higher return from holding USD versus other lower yielding currencies.

The rising yields reflect the expectation that the US Fed will be raising rates quicker than previously thought. In the next meeting in April, we think there is a fair chance of a 75bps hike in one go, something that would be very punchy.

Given that the market tries to price in future events as quickly as possible, the move last week was in anticipation of such a hike.

The best and the worst performers

The worst performers were the ones that have an existing negative or low yield. For example, JPY continued to be battered, trading above 128, with little resistance. This leads us to conclude that 130 is a reasonable target to aim for in the coming week for USDJPY.

The EUR also struggled, especially with the French election risk tied in as well. However, good support is seen at 1.0750, which could prevent further losses for the moment. GBPUSD fared less well, posting fresh lows since Q4 2020 as it fell over 1% on Friday to close at 1.2832. The break and hold below 1.3000 was decisive, as now many should pile in to short the pair, with little support seen until the 1.26’s.

Personally, we would avoid USD crosses for the moment. Even though some pairs look overdone, it’s too hard to pick a bottom at the moment. Therefore, even though we like GBP, we’d prefer to play it by being long GBPCHF.

Given that the DXY is now above 100, for those already long USD we’d probably be looking to trim some profits. There’s still plenty of time before the event risk of the Fed comes into play, but the sharpness of the move could warrant some sensible risk management.

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