BNY’s Geoff Yu argues that US Dollar (USD) strength reflects a positive terms-of-trade shock and strong trade-weighted holdings, with limited downside rebalancing pressure. While USD has lost some flows to Canadian Dollar (CAD) and Chinese Yuan (CNY), performance versus Euro (EUR), Japanese Yen (JPY) and Mexican Peso (MXN) keeps holdings elevated. The bar for technical USD selling is expected to remain high in the current environment.

Trade-weighted USD and flow dynamics

"The dollar won’t feature heavily in the FOMC decision today (or in general) but on the margins, the past two months may yet be seen as a net loosening in financial conditions because the conflict has generated excess demand for dollar liquidity."

"Previously, there were concerns about competitiveness erosion, but in the near term the U.S. is benefiting from a positive terms-of-trade shock, so there’s no need to lean against it."

"Our flows indicate that the dollar may have suffered some flow losses against the likes of CAD and CNY."

"Good performance against EUR, JPY and MXN means dollar holdings remain elevated on a trade-weighted basis, but not to a degree that would generate significant rebalancing flow to the downside."

"In the current environment, we expect the bar for technical USD selling to remain high."

(This article was created with the help of an Artificial Intelligence tool and reviewed by an editor.)