Liquid Insight: Second-half revisions in G10 FX

Research evidence excerpt

Liquid Insight: Second-half revisions in G10 FX

USD: from War to Warsh

We keep a near-term bullish outlook for the USD. For months, the FX market has been

driven by two major themes: 1) the outlook for the US-Iran war and the impact on oil

prices (Exhibit 1), and 2) the impending handover of leadership at the Fed and insights

as to the expected policy stance under Chair Warsh. Recent developments on both fronts

have had conflicting implications for the USD thus far, but on net have resulted in the

DXY trading through the top end of its 12-month range. We see scope for this to

continue.

Since the first US-Iran ceasefire in early April, the USD was beholden to headline risk

and the rolling expectation that some form of deal was imminent. The mid-June

announcement of the M.O.U. between the US and Iran was a bigger relief for oil markets

than for FX, with the USD reaction relatively minimal.

Meanwhile, US economic data proved highly resilient. Broad labor market measures have

continued to improve, amid still uncomfortably high readings of core inflation. Fed

communications stemming from the first FOMC meeting under Chair Warsh exceeded

even the most hawkish of expectations. This sparked a leg higher in the USD, more than

offsetting the post-MOU selloff. The Fed appears committed to restoring inflation to

target, keeping the USD supported via higher real rates.

Exhibit 1: De-escalation in Iran has put downward pressure on oil, Exhibit 2: EURUSD sentiment has turned bearish but positioning

but USD supported on hawkish Fed lags, and both are far from the extremes observed in ‘22 and ‘24

DXY dollar index vs. front-month brent crude EUR vs USD view and positioning since 2021

102 120

115 EUR view - USD view EUR exposure - USD exposure

80 101

99 85

-40

75 98 -80

65 97 -120