That said, the dollar no longer looks particularly stretched on our short-term valuation metrics.
Yesterday, there was also a reminder that lower oil prices can damage the dollar.
With the supply picture improving, elevated oil prices are relying increasingly on geopolitical risk.
FX markets may therefore start to price in a sharp decline in crude if signs of genuine progress emerge.
The broader Fed, oil and rates narrative remains supportive.
The dollar continues to trade with a soft undertone. That, to us, is a mix of some aftereffects of AI-related concerns (CoreWeave bonds had another wobble yesterday) and stretched longs/ short-term overvaluations being unwound. That said, the dollar no longer looks particularly stretched on our short-term valuation metrics. Across the G10, GBP, NOK and AUD are trading slightly rich versus the USD. CAD and CHF are broadly at fair value, while EUR, JPY, SEK and NZD remain undervalued. Importantly, all sit within the 1.5 standard deviation band, leaving little in the way of strong valuation signals.
Yesterday, there was also a reminder that lower oil prices can damage the dollar. A short-lived drop in Brent on unconfirmed reports of Middle East negotiation progress was enough to send DXY briefly to 101.50. With the supply picture improving, elevated oil prices are relying increasingly on geopolitical risk. FX markets may therefore start to price in a sharp decline in crude if signs of genuine progress emerge.
And the dollar’s reaction function to oil may have changed over the past week or so. Rising concerns about tech stocks have somewhat dented the market’s hawkish conviction on the Fed, allowing for greater dovish flexibility at the front end in response to non-data inputs like an oil selloff.
We recognise that the softer dollar backdrop has shifted the balance of risks somewhat further in a USD-bearish direction. Even so, we continue to favour a gradual and orderly dollar decline rather than a sharper depreciation. The broader Fed, oil and rates narrative remains supportive.
The US calendar is quiet today. Yesterday’s surprise drop in housing starts reinforced the notion of a deteriorating real estate market. Attention will instead centre on any follow-up headlines pointing to progress in US-Iran negotiations today.
Francesco Pesole
