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Summary
- The USD index (DXY) is rising this week, for only the second week in seven.
- DXY technicals were oversold, but the Relative Strength Index (RSI) has partly unwound. Room exists for RSIs to unwind slightly higher in the coming days.
- Long and short USD exposures are not crowded. This clean positioning means chances of a squeeze that distorts price action to the upside or downside is limited.
Market Implications
- We expect a further limited bounce in the DXY but like to fade this upside.
- With clean positioning and neutral tehcnicals, we think material downside will follow.
DXY YTD Slide Starting to Correct…
Last week we analysed the sharp DXY selloff (having topped out in mid-January).
We said the down move was due a corrective bounce, which is happening this week with the index up about 0.3%.
This is only the DXY’s second weekly rise in seven, comprising this month and last (Chart 1).
…Which Is Overdue as DXY RSI Is Moving From Oversold to Neutral
The sharp move lower since mid-January took the RSI below 30, the threshold flagging the index as oversold. This week’s bounce has taken the RSI above 30, nearer to neutral (Chart 2).
We expected a bounce when the technicals showed the index as oversold.
Momentum Players Have Modest (and Mixed) USD Positioning
USD positioning across the major pairs is modest and mixed.
In EUR/USD, USD/JPY, NZD/USD and AUD/USD, CTAs are modestly short USD. This enables momentum players to add to shorts on the corrective bounce (Chart 3).
If positioning was more extreme (i.e., crowded), this correction higher could trigger a short squeeze in CTA short USD positioning.
However, the only modest positioning leaves much room to add to USD shorts on a corrective bounce.
In addition, CTAs are very long USD/CAD (increasing exposure over the past week). This means positioning is mixed, which also indicates a lack of crowding on the short side.
EUR/USD
EUR/USD’s weighting of 57.6% makes it the DXY’s biggest constituent component.
Therefore, analysing the pair (alongside the DXY) helps determine the direction of the USD index.
After a new YTD intraday high on Tuesday (above 1.09), the pair has pulled back and is now down about 0.5% this week.
So far, EUR/USD is up just over 4.5% YTD (Chart 4).
Like the DXY (in reverse), EUR/USD technicals have gone from overbought to neutral over the past week or two (Chart 5).
As a result, we expect more EUR/USD downside given the RSI is heading lower.
We Like to Fade the DXY’s Additional Upside
The turn in technicals for the DXY (from oversold) and EUR/USD (from overbought), means we see additional near-term USD strength. Both could unwind further from a USD corrective bounce.
Moreover, risk of momentum players getting squeezed out is unlikely given CTA positioning is far from crowded. In aggregate, CTAs are modestly short USD but can add to exposure on a bounce.
Overall, this signals an additional small USD bounce. We like selling into this USD strength.