US Dollar: Energy shock may delay renewed downtrend – MUFG

MUFG’s Derek Halpenny notes that ongoing Middle East conflict, stronger United States (US) data and crude Oil risks are limiting US Dollar (USD) selling. Better manufacturing and retail figures have not shifted Fed expectations much, but a full hike remains priced by year-end. He warns that any sharp rise in Brent and escalation in conflict could bring forward Fed tightening and delay a renewed downtrend in the Dollar.

Middle East conflict underpins Dollar resilience

"There has been no let-up in the escalation of the conflict in the Middle East which continues to curtail appetite to sell the dollar. Attacks by the US have expanded in the sixth day of renewed fighting. Iran has responded by attacking US bases in Kuwait, Jordan and Bahrain."

"Observable traffic in the Strait of Hormuz is sparse but the advance of crude oil prices have certainly not yet hit a level that would see risk assets come under pressure via higher yields. The broader conditions in risk have worsened with investors continuing to reduce exposure in chip-related stocks as AI valuations continue to be questioned. This is not hurting the US dollar however with the sell-off impacting Asian equities to a greater degree."

"US data releases yesterday have also helped curtail dollar selling. The ‘Philly Fed’ manufacturing index surged (41.4 from 10.3) with most indices within the report pointing to a pick-up in manufacturing activity. Retail sales (control group) remained robust with a 0.5% gain following an upwardly revised 0.8% in May."

"A full hike remains priced by year-end, but spreads have generally remained against the dollar since the US inflation data this week. The risk of a sudden lurch higher in crude oil prices remains the primary deterrent to renewed US dollar selling. While there are reports that some tanker traffic is getting through the Strait of Hormuz it appears to be at a level that could quickly become problematic for energy supply – the IEA says within weeks."

"Another lurch higher in energy prices would see a Fed rate hike brought forward once again and this remains the primary risk to our view of a renewed trend lower for the dollar."

(This article was created with the help of an Artificial Intelligence tool and reviewed by an editor. Know more.)