DXY: Energy shock and Fed repricing support – ING

ING’s Chris Turner argues Dollar strength after the Iran attack is justified and likely to persist. He highlights US energy independence versus Europe and Asia, and the risk that higher Oil and natural gas prices damage fossil-fuel importers. Turner also notes Fed easing expectations may be curtailed, with DXY already breaking resistance and potentially retesting 100 this month.

Energy channels and Fed expectations back Dollar

"Yet developments this weekend seem clearly dollar positive and we identify three channels at work here. The first is US energy independence and the energy dependence of Europe and Asia. It seems too early to expect de-escalation in the Middle East and the longer oil and natural gas prices stay higher, the bigger toll it takes on the external accounts of the fossil fuel importing currencies."

"This sustained rise in energy prices wrecked the terms of trade for the likes of the euro and yen and ushered in a sustained period of dollar strength. Until investors have a stronger idea of when this conflict ends, we would expect the dollar to stay supported. Europe's TTF natural gas has just opened 25% higher after the 10/12% higher opening for Brent crude last night."

"Notably, Fed Fund futures contract sold off 3-4 ticks in Asia on the view that the Fed might not be able to cut rates twice this year. This oil shock comes at a time when the January FOMC made it clear that the central bank was losing patience with inflation. Inflation really needed to show signs of falling, the Fed said, otherwise stabilisation in the US jobs market would question whether the Fed needs to cut rates at all."

"The virtuous circle of inflows, stronger EM currencies, local monetary easing cycles and bond and equity rallies could all reverse if energy prices stay elevated for a sustained period. A reversal of those flows would be dollar supportive too."

"DXY has already traded through resistance at 98.00. And unless there is some very early de-escalation in the Middle East, we cannot rule out DXY heading back up to 100 this month. Certainly the benign conditions which had favoured a mild dollar decline this year have currently been put on ice."

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