If we look at some of the key themes going into 2022, it's tough to find one that might dent the dollar outlook in general.
The first on the list is major central banks tightening. And in that regard, the Fed is among the frontrunners and perhaps arguably going to be the most aggressive. Roughly three rate hikes are penciled in for next year and the first of which should come by June at least.
The Fed has moved quite quickly from "this is transitory" to "we need rate hikes asap" and that has gotten the market stirred up. The long-end of the yield curve is still not too worried but we'll have to see how aggressive the Fed decides to go next year and where do they see the current cycle stopping.
If 2% is the upper limit, it will be tough to get yields excited in my view. But this may be an argument that will only take shape in the latter half of next year.
For the time being, it's all about how much can the Fed stick to its word. And if all does go according to plan, the dollar should at least be able to stay resilient on the back of the Fed's policy outlook.
The other key theme to note next year is China's battle against the pandemic. If that leads to more supply bottlenecks, that will contribute further to the above argument. And if it leads to a pronounced global slowdown and we do see risk trades correct, that will also be a scenario where the dollar can shine i.e. flight to safety.
As such, one can argue that the dollar smile theory is one that should work in the currency's favour in the early parts of next year. Or at least it should provide some material support for the dollar and keep it more resilient.
The big caveat is that if the Fed fails to stick to the script, which may be rather unlikely. It will depend on a myriad of factors, including China and the pandemic, but otherwise, the dollar should at least hold up.
As for which trades I would prefer in this instance? I would say EUR/USD, USD/CHF, and USD/JPY are ones that may be more straightforward. The case for the former two relies on policy divergence while the latter is mostly if Treasury yields also push higher on the back of a more robust inflation outlook.
And in the event of any risk rout, then it is best to lean on the dollar against the commodity currencies bloc.