As per a prominent foreign currency trader, the Pound-to-Dollar exchange rate (GBP/USD) failed to substantially breach and hold 1.42 in 2021, and it is doubtful to do so in the immediate future. “I think it will be tough for the USD to drop more from here,” says Brent Donnelly, Senior FX Trader at HSBC in New York.
Although the Dollar declined in the aftermath of last Friday’s US employment report, Donnelly – creator of Alpha Trader – predicts “the dollar should remain steady or go a touch higher from now through June 16.” The Federal Reserve’s Open Market Committee (FOMC) releases their newest policy position on June 16, and as an outcome, it is a focus for financial markets.
The trade system is waiting to see if the Fed would announce a ‘pullback’ of its quantitative easing program. Lowering quantitative easing, often known as a taper, is a prelude to rate hikes and is largely regarded as a bullish indicator for the dollar. “Existing roles are often under pressure to be reduced during large events. Because the market has built up a substantial short USD position over the previous several months, I believe this will be the case going into the June 16 FOMC. While fund managers have been somewhat flexible in their opinions and sporadic in their involvement, real money and CTAs have taken the lead” Donnelly argues.
According to Donnelly, the market should have been on “high alert” for any taper discussion at the Fed meeting on June 16. He identifies Fed FOMC member Lael Brainard as a crucial member of the FOMC who, in recent statements, has seemed less cautious on the issue of normalizing policy. In the meantime, the Fed’s growing impatience is mirrored in a plan to begin selling ETFs on Monday.
During Covid-19 crisis, the Fed took the extraordinary action of acquiring Exchange Traded Funds (ETFs) on the open market to help stabilize markets and then provide adequate liquidity. The Fed is effectively undoing that stimulus by surrendering these ETFs, signaling that it is beginning to stiffen.
“The ETF sales are small in magnitude but have a significant signaling significance. The market should be on high alert for possible taper discussion at the Fed meeting on June 16, as a result of these shifts in Fed language and actions” Donnelly argues. While market uncertainty around the Fed is one rationale for no substantial moves in the greenback, the other one is Chinese officials’ reluctance to see the Yuan weaken significantly.
“The PBoC’s stance on the CNH makes it more difficult for the USD to sell down forcefully. I don’t believe a substantial flip in the USDCNH is planned, but the change in the FX reserve ratio is worth exploring in the USD outlook” Donnelly adds. To keep Chinese exports relevant on the global arena, China regulates its currency by purchasing and selling other currencies.
Authorities sometimes respond to Dollar weakness by purchasing the currency with their forex reserves, which can have unintended consequences for the wider market, including the GBP/USD. A good technical advanement on the Dollar index, which has seen its short-term decline broken, is another rationale to anticipate the Dollar to be bolstered.
Furthermore, interest rate differentials, according to Donnelly, do not justify further US Dollar depreciation. “Take a look at the two graphs below. Notwithstanding a gallant effort to break away from a zero difference in February, the premium on Australian vs. US 10-year rates has returned to zero, as shown in the AUDUSD chart (below)” Donnelly explains.
“This is hardly a bold viewpoint. I’m forecasting a flat to slightly higher USD through June 16, rather than a strong dollar rise. As demand for dollars somewhat surpasses supply, anticipate significant dollar supports (e.g., 1.2000 USDCAD, 0.7800/25 AUDUSD, 1.4220/50 GBPUSD) to hold this week and next” Donnelly said.
