If there's a bull case, this is it


The US dollar held a steady bid from Wed-Fri after the Democrats won the Senate and it was the top performing currency after the result became clear.

Could that mark the bottom for the nine-month bear market in the dollar? Or at least a sustained bounce?

The best trade in FX is to always follow the trend, but there is a decent case for dollar strength that hasn't been told. Here it is.

1) Higher US stimulus will boost growth

The implications for the Democratic win in the Senate are easy to understand. On Thursday Joe Biden will be presenting his proposal for "trillions" in stimulus. If anything close to that gets through Congress on top of the $900B already handed out, it will make for two years of sizzling growth. This week Goldman Sachs boosted its 2021 forecast to 6.4%; a big stimulus package would send that up another notch, pulling 2022 higher as well.

Why wouldn't you want to invest in a country growing that fast?

2) The US will be among the first countries to vaccinate

The countries with the ability to manufacture vaccines are at the front of the line for doses and the US will be one of the first to vaccinate the bulk of its population and achieve herd immunity. That's built into GDP forecasts but it underscores that most other countries will lag, including emerging markets which will be a year behind. That relative difference is compelling.

3) Higher Treasury yields


This week's US dollar move coincided with a 20 basis point move in 10-year yields higher to 1.115%. That boosts yield differentials in the US dollar's favor on many fronts. I think some of the move this week was on bond hedges and I'm curious to see how the dollar performs when yields stabilize, but the rates market is a spot to watch very closely.

4) Fed expectations are too dovish

USA vaccine

The dollar will go wherever the Fed does, and the Fed will follow inflation. Already the talk from the central bank is changing. Less than a month ago they were contemplating more QE or lengthening the average maturity of purchases. This week, Clarida and Evans were talking about timelines for tapering bond purchases.

They've been strident in forecasting no rate rate hikes into 2024 but that always comes with a caveat about inflation. They have been talking tough about allowing inflation to run hot and looking through temporary climbs but when they're seeing 3% year-over-year inflation, will they hit the panic button? Their track record for consistency isn't inspiring.

5) Technicals

I prefer the Bloomberg Dollar Index to the DXY because it's trade-weighted. As you can see here, it's challenging the 2018 low after a one-way 14% move since the March high.

US 10 year yields

That's a big move.

I don't think this is a base to build a multi-year dollar bull market but at the very least there's a case for a bounce. If the DXY is your bag, the chart isn't significantly different, with the latest bounce coming from within 1% of the 2018 low.

Another spot to watch is USD/JPY. There's a downtrend from the March highs that's being challenged. If it breaks, it would be a stronger indication of a retracement phase.

Powell Fed superman

6) Dollar positioning

The consensus has a habit of being wrong. Bank of America's December institutional investor survey highlighted that selling the dollar was the second most-crowded trade. The CFTC FX data also shows a US$30-billion bet in the futures market against the dollar with euro and yen longs particularly crowded.

Convinced yet? What do you think?

I'm giving it a lot of thought this weekend.