DXY flirting with 90.00 and looking at the DMA of 21

• The dollar index continues to flirt with the 90.00 level.
• The dynamics of the USD have changed since the Democrats took control of Congress after winning the two Senate elections on Tuesday in Georgia.
• DXY recently outpaced a two-month downtrend that started in early November.

The Dollar Index, a trade-weighted basket of major USD exchange rates (EUR / USD represents approximately 50% of the index) and the market’s preferred indicator of USD sentiment, continues to flirt with the 90.00 level; The index saw momentary weakness heading into the final 4pm London fix of the week, briefly dipping below the psychologically important number but continuing to trade near the day’s highs.

A more convincing push above 90.00 would open the door for a test of the DXY 21-day moving average, which sits tantalizingly close to 90.171. Currently, the index is trading near 90.00 and with gains of around 15 points or just under 0.2% on the day.

Job data

The US dollar was largely unresponsive to the disappointing December NFP figures, as markets are much more focused on the economic recovery looming in the second quarter of 2021 and beyond (given increased stimulus from Democrats and mass vaccines) rather than the short-term economy. weakness. In fact, FOMC Vice Chairman Richard Clarida, whose comments have been crossing the wires recently, summed up why markets were apathetic to the publication when he said he does not expect the December jobs pattern (of high job losses in leisure and hospitality due to closures) persist into 2021.

Changes in USD dynamics

The dynamics of the USD have changed since the Democrats took control of Congress after winning the two Senate elections on Tuesday in Georgia. Democratic control over the legislature means that they will be able to implement their policy without hindrance (as long as they maintain unity within their own ranks). This means more fiscal stimulus is on the way and soon, hence equities, crude oil and other industrial commodities, bond yields and inflation expectations have all risen this week.

Dollar bulls argue that these developments are also bullish for the dollar; Greater fiscal stimulus equates to a faster pace of economic recovery in 2021 and beyond, with aggressive implications for Fed policy – a positive combination for the USD, they say.

In fact, after several FOMC members have raised the issue of shutting down the bank’s QE program this week. Aside from all the American political drama, the issue of whether, when and how the Fed could reduce its monthly QE purchases and the impact this could have on bond markets and other markets has been a hot topic.

Atlanta Fed Chairman Raphael Bostic has said this week that he believes the Fed could reduce purchases earlier than expected, while Dallas Fed Chairman Robert Kaplan has said he does not believe the Fed You must intervene to prevent yields from rising, as higher yields reflect better economics. panorama.

Others have been more cautious about rolling out the shopping program so hastily; FOMC Vice Chairman Richard Clarida said it would be “a long time before we consider reducing purchases” and expects the bank to maintain the pace of purchases this year.

Clearly, the topic of phasing out asset purchases is a hot topic of debate at the Fed and it appears that the risks are leaning towards higher US bond yields (nominal and real), which could be bullish for the dollar. American. In fact, the US 10-year (nominal) yield continues to rise, rising another 4.9bp on Friday to 1.12%, while the US 10-year TIPS (real) yield is up 5.7 bp and once again exceeded -1.0% to 0.985%.

Looking at the price action this week; the strengthening of the USD bullish rationale appears to have sparked, at the very least, profit-taking in a market that has been historically short against the US dollar until now.

However, long-term dollar bears are likely to seize the opportunity to sell US dollars if DXY achieves a more sustained rally above 90.00 and perhaps at resistance around 91.00. They could argue that yes, US growth will be higher this year due to the stimulus, but this faster growth will be the result of record US government deficits which will likely translate into larger record trade deficits (both possibly factors USD negative).

Record deficits and historically high debt / GDP levels, which means the US government is more reliant than ever on cheap borrowing costs, will complicate matters for the Fed regarding allowing policy normalize (i.e. allow rates to rise).

Meanwhile, rising US inflation expectations and better global growth and trading conditions are likely to result in greater strength in risky assets and cyclical currencies (such as AUD, NZD, CNH and other emerging markets), at the expense of the US dollar, argue the bears.

DXY breaks above long-term downtrend

Looking at DXY technically, the picture looks a bit less bearish. The index recently outpaced a two-month downtrend that began in early November. A break above the 21 DMA at 90.171 combined with more profit-taking on shorts in USD could set the stage for a rally towards resistance at 91.00 (December 21 highs).

4 hour chart