FX Trading focus: The USD has broken higher – how far can it extend?
As I argue in the Saxo Q4 Outlook, set for release early next week but penned more than a week ago, the fourth quarter could prove a difficult test for USD bears. And that is already proving the case before Q4 even gets under way tomorrow as key USD resistance fell away yesterday with a bang – with EURUSD below 1.1665 and even below the late 2020 low of 1.1603 while other currencies also dropped like flies against the surging greenback. As noted in the excerpt, the most interesting aspect of yesterday’s move was that it unfolded in isolation from other factors like risk sentiment (mostly stable if leaning slightly lower yesterday but actually recovering today) or US treasury yields (consolidating). One factor besides critical resistance giving way, which likely triggered both stop-outs and new positioning, is the end-of-month and end-of-quarter today, so we still need to see how this move holds in the days to come, but in the meantime must take it at face value and ask both what is driving it and how far the move can extend.
The key driver for the stronger US dollar in the background is likely the anticipation that the Fed is finally set for policy normalization while the chief surplus economies like the EU and Japan are still stuck in perma QE, which is so large there and rates so negative there that surplus savings end up recycled back to the US. Two factors have added a bit of energy of late on that account: the weak result for the center-left in the German election and fading anticipation that a massive EU fiscal programme is on the way. Likewise, the “steady” choice in Japan’s leadership could keep Japan’s fiscal outlook less interesting. On the capital flow front, the huge shift in Chinee policy in recent months has meant a huge reallocation away from China in global portfolios, with the US far and away the largest market for capital hunting a new destination.
The US dollar is pressing higher across the board, having cleared 12-month+ lows in EURUSD and taking aim at 1.1500 or lower to the downside there, while elsewhere, the strong greenback has yet to clear major pivot levels established on its previous run higher – for example in AUDUSD, where the 0.7106 level pivot has yet to fall. Note how the recent rally and retreat has created a kind of right “shoulder” after a giant “head” formed from the US election-era timeframe lows to the highs near the beginning of the year. Using the sloped neckline of that head-and-shoulders formation, the key level break level is coming into view ahead of that 0.7106 level. Looking lower, the 0.7000 area was an obviously critical level both pre- and post-pandemic breakout as shown. Then there are the projections lower if 0.7000 falls – anything from the 0.6805 area show (sample EW target) to 0.6550 to even the 0.6210 area (which is the classic approximate head-and-shoulders target area as well as the 161.8% extension of the last sell-off wave from the 0.7478 retracement). One factor that could support the Aussie before the more extreme sell-off extensions is the already crowded short positioning. For now, let’s see if 0.7106 falls.