Supportive USD Fundamentals and DXY Setup Ahead of FOMC

US Dollar and DXY Analysis:

• USD Fundamentals look supportive ahead of FOMC - safe-haven and liquidity
• Dollar Index (DXY) positioning only slightly lighter after sizeable dollar sell-off
• Key DXY technical levels ahead of the FOMC meeting and presser

US Dollar Fundamentals: USD Supported Ahead of FOMC Meeting

The US dollar has experienced a ‘V-shaped’ recovery after the dollar sell-off when CPI reached 7% - the hottest US inflation print in nearly 40 years. The drop has been viewed by many as the result of a bullish disappointment as expectations of a surging dollar dropped sharply.

Currently, the dollar, via proxy (US Dollar Index - DXY), trades above levels witnessed before the sell-off, leaving the door open for more bullish disappointment. However, the dollar looks to be supported by the recent Russia-US tensions over Ukraine due to its safe haven appeal and liquidity. Additionally, oil continues to trade close to its recent high which has the effect of stoking inflation expectations and, by extension, fosters a greater pace of rate hikes from the Fed with the possibility of initiating quantitative tightening (QT) sooner than originally expected.

FOMC Preview:

The pace of rate hikes and end date of quantitative easing have often been points of interest in previous meetings however, the focus of today’s meeting may be skewed more towards the start date of QT, the process whereby the Federal Reserve Bank reduces its balance sheet and effectively tightens financial conditions.

Earlier this month Mary Daly (San Francisco Fed President) alluded to a faster rate of QT by saying that she “would prefer to adjust the policy rate gradually and move into balance-sheet reductions earlier than we did in the last cycle.”

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Dollar Positioning Somewhat Unchanged After Sell-off

The most recent CFTC data via the commitment of traders’ report shows a minor reduction in DXY net-long positioning. The net-long positioning could suggest that institutions, hedge funds and large speculators remain bullish on the value of the Greenback although, the level of positioning is not as high as in the June ’18 - June ’19 run up.

DXY Line Chart with CoT (DXY) Net Positioning Overlay

Source: Refinitiv, CFTC, Cot Report

Find out what the CoT report is and why it’s useful to traders

Key Technical Levels (DXY)

The DXY weekly chart is great for helping identify key levels over longer periods of time which tend to be helpful when analyzing multiple time frames. The key 38.2% Fib of the 2020 – 2022 move provided support for the dollar amid the recent sell-off causing prices to rise thereafter. A brief break below trendline support resulted in current price action advancing for 2 weeks in a row should we end this week on a positive note.

US Dollar Index (DXY) Weekly Chart

Source: IG, prepared by Richard Snow

The daily chart highlights more granular price action and levels of interest. The most relevant level of resistance comes in at the 50% Fib level (9655) – which kept DXY at bay over the latter stages of 2021. A break and hold above 9655 may signal an attempt at 9780 before the 61.8% Fib at 9830 comes into focus.

However, the potential for USD bullish disappointment remains as market participants will scrutinize every word from Fed president, Jerome Powell later today. Any material changes to the current hawkish narrative/tone could see DXY shoot lower towards 9582 before testing trendline support and the 9548 level thereafter.

US Dollar Index (DXY) Daily Chart

Source: IG, prepared by Richard Snow

--- Written by Richard Snow for DailyFX.com

Contact and follow Richard on Twitter: @RichardSnowFX