Suddenly the single most "consensus", not to mention crowded trade of 2021 (as profiled earlier this week), looks like it is on the verge of blowing up.
We touched on this earlier, laying out how a dollar correction higher - which while welcome with both arms by China - is perhaps the one single development that could spoil the market party. Also touching on the possibility for a dollar short squeeze, is SocGen FX strategist Kit Juckes, whose Thursday note was aptly titled "Short-Squeeze for the Dollar", in which he writes that "Valuations and relative rates suggest dollar weakness has some way to go this year, but there are plenty of reasons to be long here." He explains below:
The chart is an update of one in theFX Outlook and shows DXY against a weighted average 2y interest rate of the constituents. Since we published the outlook last month, the rate differential has widened by 8bp in the dollars favor and the DXY has fallen by 2%. The gap is still there, but the two rates and currency have been moving in opposite directions. The tide of valuation is still dragging the dollar lower as it remains expensive relative to rates, but the prevailing wind, in the form of the direction those rates are moving, is going the other way. When the wind and tide go in opposite directions, the sea gets choppy sometimes very choppy. With the added chaos caused by US politics, I can imagine that some of the holders of short dollar trades are feeling a bit seasick.