Dollar Gets Firmer But Strategists Are Still Hesitant to Lean In

(Bloomberg) -- The dollar has received a boost this month after a hawkish tilt from Federal Reserve officials and solid gains in the U.S. labor market wrong-footed leveraged fund short positions, clearing the way for more gains.

Bloomberg’s dollar spot index has climbed around 1% so far in August to trade at a two-week high supported by a chorus of Fed officials, which have raised the prospect for central bank stimulus to be dialed back sooner than expected. It may receive immediate support in light of firm domestic data though “we do not see a case for sustained dollar appreciation,” Goldman Sachs Group Inc. strategists including Kamakshya Trivedi wrote in a client note.

“The global economy will benefit from vaccination tailwinds over coming quarters, the U.S. economy should slow as the fiscal impulse turns negative, and falling inflation should allow the Fed to remain on hold for a lengthy period,” added Trivedi.

Hedge funds have been caught off guard by the rally since mid-June and are clinging to short positions which they are slowly reducing. Leveraged funds’ net dollar shorts peaked in the week ending July 9 at over 78,000, data from the Commodity Futures Trading Commission show. They have been reduced every week since and now halved from the peak, according to the latest data.

All About the Data

The August jobs report bolstered the dollar but low risk appetite and reduced liquidity suggest markets will need additional confirmation in September, wrote JPMorgan Chase & Co. strategists including Paul Meggyesi in a note.

They prefer keeping risk exposure light, with a bias to be long dollars against more dovish central banks like the European Central Bank as well as against some currencies more closely linked to sentiment to hedge against any risk deterioration due to the delta variant.

Morgan Stanley has been among those ahead of the trend and continue to recommend investors hold onto dollars. They see rising Treasury real yields, which strip out the expected impact of inflation, boosting the dollar. Though they noted that “risk/reward for a higher USD is not as compelling as it was when we turned bullish in early June,” with the dollar index facing potential technical headwinds around 93.

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