In our FX review this week, we again focus on the drivers behind the sharp USD move, as well as looking at what could happen next week with the US Fed and Bank of England meeting.

Running For Cover

The sharp bid in USD this week started at the end of last week. We wrote about this in the Week 4 edition, that can be read here. In short, US bond yields were rising, causing investors to buy dollars as a way of expressing the higher carry. Early this week, the move continued, pushing several pairs through significant trading levels.

For example, the break and hold below 1.3000 for GBPUSD opened up huge blue sky below. So as we passed through the week, momentum trading took over. Investors piled into this move, causing a far greater slump than would normally be seen.

We also flagged up the falling equity markets, with China growth concerns, Covid-19 lockdowns in Asia and the Ukraine war continuation. These factors also helped the greenback to retain the safe haven appeal for investors looking to move out of currencies like EUR.

Central Banks Overshadowed

For much of the week, the imminent central bank meetings have been somewhat put to one side. We expect hikes from both the US Fed and the Bank of England next week. The key factor for the Fed will be the size of the hike. We sit as an outlier in looking for a 75bps hike, with most of the market choosing a 50bps move instead. Either way, it’s a clear message that the Fed are prepared to take strong action to combat rising inflation in the US.

For the Bank of England, a 25bps hike is much the consensus, which we feel is fair. However, the hike isn’t really coming from a position of strength. Recent economic data is rolling over, but cost-push inflation still rising, potentially turning to stagflation later this year. Therefore, although a hike is technically warranted, we don’t see much GBP upside from the meeting.

Trade Ideas

Even with a slight relief rally on Friday, we’re still very tentative to dip our toes in the water on xUSD pairs. We think that there is probably more room to run, especially with event risk of the Fed on Wednesday. Yet the risk/reward of getting long USD also doesn’t really stack up. For that reason, we’re happy to sit on our hands for the moment.

In terms of when a reversal comes, our preferred options would be long AUDUSD and short USDCAD. We’d stay clear of EURUSD, which we feel now has a 1.04-1.08 trading range. USDJPY also will probably struggle to make more gains above 130 due to Government intervention, but downside Puts or Put spreads are better than outright spot in our opinion.

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