DBS Group Research said the US dollar was being pulled in different directions against developed market currencies and Asia ex-Japan pairs, with Federal Reserve expectations setting the tone. In developed markets, the focus was monetary policy, while in Asia ex-Japan trading was influenced by relief from lower oil prices. Pricing in rates futures was framed as the key swing factor for near-term dollar performance.
Futures markets were described as assigning a 38% probability to a surprise rate increase at Fed chairman Kevin Warsh’s second FOMC meeting. The note added that the DXY basket would likely weaken if the Fed stayed on hold and moved to end forward guidance, keeping rates unchanged without signalling a September hike.
Critical Setup For The US Dollar
We are watching a critical setup for the US Dollar as futures markets price in a 38% chance of a surprise interest rate hike at the next FOMC meeting. With the US Dollar Index (DXY) currently trading near 103.20, derivative traders must prepare for asymmetric downside risks. If the Federal Reserve holds rates steady, we expect a rapid unwinding of long dollar positions.
Bearish Outlook And Trading Recommendations
This bearish outlook is supported by recent energy market data, where Brent crude oil has slid over 6% this month to trade around $76 per barrel. Historically, falling energy prices give central banks comfortable cover to pause rate hikes and abandon hawkish forward guidance. We see this relief in oil prices as a strong signal that the Fed will choose to do nothing.
To exploit this setup, we recommend that derivative traders buy out-of-the-money DXY put options expiring after the upcoming Fed meeting. This strategy limits risk while positioning for a sharp dollar depreciation if USD bulls are disappointed. We also suggest looking at call options on currencies like the Euro or Yen, which stand to benefit most from a weaker greenback.
