• Joel

DXY Slips As USD Funding Stress Eases For now

After reaching highs of just under 103 last night, the Dollar Index (DXY) has slipped to below 101.50. In my opinion, two key factors are behind USD’s most recent move lower.

Firstly, in recent days, the stress in USD money markets has shown signs of easing.

As a reminder, the Fed last Friday announced a huge, more than $5trln, repo operation in an attempt to flood the markets with excess USD. Banks have not yet needed to borrow the entirety of these $500bln at a time liquidity offerings, showing that either funding stresses have eased, or the Fed’s heavy-handed approach has been working.

Moreover, the Fed took even more blatant steps yesterday to weaken the USD. The Fed offered USD swaps of $60bln each to a number of countries (such as Australia, Brazil, New Zealand, Norway etc.), literally creating USD out of thin air to sell in exchange for their own currencies. Obviously, this move had the effect of increasing the supply of USD and increasing the demand for these currencies, as such the countries who were offered these swaps have seen significant appreciation vs USD.

Fed offers USD currency swaps > increased supply of USD combined > USD weakens

This, combined with all of the other actions taken by the Fed to flood the market with USDs appears to be finally taking effect today.

Secondly, it appears that the “sell everything” panic, from which USD has derived huge benefit in recent sessions, is subsiding… for now.

Amid escalating Covid-19 panic, investors were selling everything (stocks, bonds, even gold) in favour of USD.

Investors panic due to high uncertainty over Covid-19’s effect on economy > Investors sell everything (including traditional havens such as gold and bonds) in favour of cash > Given USD is by far the world’s most liquid currency, demand for USD increases > USD appreciates.

However, since Monday’s historic stock market sell-off, we have seen increasingly aggressive action from the world’s major central banks (Fed, ECB, BoE) and increasingly large proposals for fiscal stimulus in the US and Europe. As a result, sentiment in the stock market and other commodity markets (such as crude) has stabilised.

Therefore, as markets have gained a firmer footing, this may be weighing on “safe-haven” USD.

Aggressive action by governments and central banks to counter effects of Covid-19 eases panic > markets stabilise > demand for “ultimate” safe haven USD subsides