Dollar Dethroning Continues As EUR Strengthens Toward 1.11

Dollar charts turned a brighter shade of red on Tuesday as the Dollar Index (DXY) broke below a 3-year uptrend line drawn from the 2014 low. As with most charts, the story behind the price is worth discussing, and USD weakness is no exception. In short, we’ve seen the hope for an aggressively tighter Federal Reserve on what was presumed to be expansionary fiscal policy dissipate for most of 2017. The combination of relatively restrictive monetary policy as Trump’s fiscal plans were revealed to lead the USD ever-higher, but that has not been the case.

There are a few markets that you could look to for evidence of falling concern about USD strength. Two markets that we’ve looked at in the recent past are 25-delta (fancy option talk), which shows options traders are not paying to protect against aggressive USD upside like they had been in months past and Eurodollar futures. Eurodollar futures or EDA’s is a market that allows companies and speculators to see and mitigate the cost (i.e., interest rate) to hold dollars in an offshore account via USD LIBOR over 90-days. Sounds boring, doesn’t it? Well, it’s difficult to know the size because the Eurodollar futures market is unregulated but Eurodollar trading at the CME involves more contracts than S&P futures, Oil futures, & 10yr bond futures or TY1. In short, Eurodollars are a giant deal, and the market provides a way for us to see what the providers of liquidity to the global financial system expect of future interest rates. Recently, the EDA price has trended higher toward 2017 highs.

A Eurodollar move higher, which we’ve seen, suggests that it will cost less to borrow USD internationally and it will pay less to lend USD per the view of the banks the price it out, which aligns with the weakness recently seen in USD via the DXY. While there are often more factors that determine a currency’s strength or weakness than many investors give credit, the rise in Eurodollars through December help show why EUR/USD is moving toward 1.12 with what appears to be little resistance. On the other side of the equation, we have seen European economic data support the view from the ECB that monetary policy could soon shift to a more restrictive stance, which would likely reduce the spread between European core bond yields and US yields further. A flattening of the yield spread between European core yields and US yields has been correlated with EUR/USD appreciation for much of 2017.