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The conditions for a continuation of the Dollar rally remain intact, says Goldman Sachs.
A weekly currency briefing from the Wall Street investment bank says the higher yield offered by U.S. bonds are proving supportive, but a second factor is at play: slowing global growth.
Their modelling reveals the downgrade in global growth expectations has been a drag of 100-250bp on G10 currencies against the Dollar since the end of July.
"Both drivers likely need to turn for the broad Dollar to move lower on a sustained basis," says Zach Pandl, a strategist at Goldman Sachs.
The Dollar reached its highest level since November 2020 last week with the Dollar index - a broad measure of the Dollar according to a basket of exchange rates - achieving a high at 93.72.
The move coincided with a fall in the Euro-Dollar exchange rate to a multi-month low at 1.1663, levels last seen on November 04, 2020.
The Pound-Dollar exchange rate meanwhile printed a low 1.3602, a one-month low.
FX transfers: Secure a retail exchange rate that is between 3-5% stronger than offered by leading banks, learn more. (Advertisement).
Goldman Sachs economists reduced their forecasts for third-quarter GDP growth in both the U.S. and China last week, amidst rising cases of the Delta variant.
Some optimism came on Monday August 23 after China reported no new Covid cases, suggesting perhaps the situation in that country was coming under control.
The Dollar duly traded broadly lower on Monday amidst a recovery in global stocks.
However, given the transmissibility of the Delta variant investors will retain a cautious stance on the China Covid story this week.
Elsewhere in Asia cases continue to rise with Vietnam putting Ho Chi Minh City under a two week lockdown.
"Given the large role global growth expectations seem to have played in recent G10 FX performance, we will need to have more confidence that the delta outbreaks are waning before recommending fresh pro-cyclical Dollar shorts," says Pandl.
On the all-important question of tapering at the Federal Reserve, Goldman Sachs says a November taper announcement is likely.
The Dollar has found support through 2021 as the market expected the Fed to announce it would reduce its quantitative easing programme (a process known as tapering), a move that would likely recede an interest rate rise.
Goldman Sachs expects quantitative easing to be reduced at a $15BN per meeting pace from November, meaning quantitative easing would be concluded at the end of September 2022, leaving room for a fourth-quarter 2022 rate hike.
Despite holding near-term strategic views that see gains for the Dollar, Goldman Sachs' point forecasts suggest a weaker Dollar on a three and six month horizon.
Their EUR/USD forecast for three months is 1.20 and 1.23 for six months.
Their GBP/USD forecast for three months is 1.41, rising to 1.45 for six months.
The one-year point target is 1.25 for EUR/USD and 1.44 for GBP/USD.