Higher Interest Rates are here to stay… for a while.
What does that mean to FX?
First, we have to look at the U.S. Dollar. That’s the pivot for this entire scenario playing out in front of us.
Obviously, the U.S. Dollar has been parabolic for quite a while. You don’t need me to tell you that… The Fed was the first to the party to aggressively raise interest rates to fight inflation and it caused massive spreads between all other foreign exchange. It’s only natural in that environment that the Dollar would aggressively appreciate. It’s what the Fed needed to do to fight their biggest enemy right now which is inflation.
DXY is at it’s highest level since 2003 and seems like it will never stop! Because of this, the U.S. has become an excellent exported of one thing: INFLATION.
But it has some headwinds finally. Central banks around the globe are having to raise rates to try to play catchup. They need to do this so it doesn’t destroy their economies.
Take the bank of Japan’s FX intervention last night. They import energy and export goods. They are getting crushed, there’s no way around that.
The FED basically said they will do whatever is necessary to beat inflation back down to 2% but also said they would be data dependent going forward on rate hikes. I get it. But we can already see the supply side starting to normalize even with a still elevated CPI. Higher interest rates are going to slow the economy drastically over the next six months as everything that we borrow money to buy will have to come down in price, no matter what anyone says.
IF the supply side does it’s job, inflation could be tamed relatively quickly and the FED could choose to slow their pace in the coming months. If we wait until they TELL us that’s the case, it will be too late to be short the dollar…
That’s the entire premise of Inventory Trading remember? We buy swimsuits in January so we can sell them in April because that’s when demand is lowest and we can get the best prices.
We’ve been building a hedged dollar short inventory. It started when DXY went above 109.2 and we have added to it and taken great profits along the way. Our fair value for DXY rests about 108.2 and we will be in this trade until we get closer to that fair value over time.
Happy Trading!