US Dollar Now Screens as an Outright 'Buy' for the First Time in Ten Months say JPMorgan

Studies conducted by the world's largest investment bank suggest the US Dollar is a buy for the first time in 2017, and the Euro as a sell.

Analysts at JP Morgan are eyeing the potential for EUR/USD downside amidst a role-reversal between economies on either side of the Atlantic, as Eurozone economic momentum wanes and the US accelerates. 

According to JP Morgan's econometric models, the US Dollar is now an outright buy for the first time this year as the US economy picks up a head of steam into year-end.

Earlier in 2017, slowing US economic momentum conspired with a host of other domestic factors and an upswing in global growth to push the Dollar lower, while other currencies such as the Euro and those in emerging markets saw strong gains.

“A notable shift in our economic momentum framework has been an improvement in the ranking for the Dollar. USD now screens as an outright ‘buy’ for the first time in ten months,” says says Meera Chandan, a strategist at JPMorgan.

Now, US economic momentum is recovering rapidly just at a time when economies elsewhere in the world are looking as if they might want to take a breather, which could mean the US accelerates at a time when growth in the rest of the world moderates.

Recall, we saw this same seasonal pattern in 2016 confirming the US economy likes to end the year on an high.

“A better ranking for USD hasn’t just been about the US growth forecast being upgraded; it is also about other regions like Europe and Emerging Markets coming off the boil,” says Chandan.

Above: The USD/GBP rate over one day intervals.

JPMorgan’s economic momentum framework is an econometric model that uses changes in in-house economist growth forecasts to signal currency returns. Chandan says the framework has performed well when the growth outlook of the world’s various economies is being reassessed and remains subject to revision.

“Just as the US lagging the rest of the world on growth weighed on USD in 2017, a reverse rotation could further strengthen in the near term. Typically, such ‘buy’ signals for the Dollar last for four weeks,” Chandan adds.

Chandan notes that the economic momentum framework model has pointed to US Dollar short positions as the order of the day for around 65% of the 2017 year to date and has churned out neutral signals about 26% of the time.

“Stronger growth momentum globally meant that the growth forecast for virtually no country was getting downgraded materially leaving the strategy short the dollar on the expectation that strong global cyclical conditions would be favorable for high beta currencies at the expense of the dollar,” Chandan explains.

Chart showing the USD/GBP rate over one week intervals.

Chandan’s models are spitting out buy signals at a time when the US economy has emerged, almost completely unscathed, from the other end of a summer where the country was beset by a series of extreme weather events.

“As a result, our US forecast revision index is increasing at its fastest pace in two years outright and at its highest pace in nearly a year versus the rest of the world,” says Chandan.

Three hurricanes over the course of August and September were expected to hit growth during the third quarter but preliminary GDP figures released on Friday 27 October showed the economy expanding at a healthy rate of 3%.

“A further improvement in the US relative to the rest of the world could also result in a partial reversion in the Dollar since USD is still undershooting rate differentials and net dollar shorts are still crowded,” Chandan writes, in a recent note to clients.

The US Dollar index fell by more than 10% during the first nine months of the year, before stabilising when the Federal Reserve signalled it will push on with rate hikes despite ongoing weakness of inflation.

Chart showing the EUR/USD rate over one day intervals.

“Within G10, our economists’ growth forecasts have stabilized for the Euro area after experiencing substantial growth upgrades and the EUR has started to feature as a ‘sell’ on growth in the global portfolio for the first time in a year,” Chandan notes, turning to the rest of the world.

Third quarter US GDP growth came in just 10 basis below the accelerated pace of expansion seen in the second quarter. This coincides with mounting hopes that President Donald Trump’s tax cuts and reforms push may make its way onto the statute book before year end, which could further boost the economy.

Meanwhile, economic momentum has begun to wane in both the Euro area and across some emerging markets, with the number of economist forecast upgrades slowing steadily as the second fourth quarter has gotten underway.

“In 2Q, nearly 50% of the net emerging market universe was getting upgraded by more than 1 sigma in growth terms; this has since narrowed to 6%,” Chandan says. “With the growth outlook downgraded modestly for select Asian candidates, stable for EMEA and upgraded for LatAm.”

“Whether this is a one-off ‘buy’ signal for the Dollar or a more meaningful rotation towards the US and away from the rest of the world remains to be seen,” Chandan tells clients. “Such shifts in economic momentum can have lasting impacts on the direction of the dollar and was in part responsible for the dollar decoupling with interest rate differentials in early 2017.”

JP Morgan foreign exchange strategists have recently bought the USD/JPY pair long, which is a bet on a rise in the value of the Dollar relative to the Japanese Yen, and have unwound their bets favouring emerging market currencies relative to the Dollar.

The Dollar was quoted lower against a range of currencies Monday, leading to a 0.21% fall in the Dollar index, although the greenback still made gains over some of its G10 rivals. 

The Dollar-to-Swiss-Franc rate was quoted 1.3% higher at 0.9975 during noon trading but fell 0.30% to 113.27 against the Japanese Yen. 

The greenback gained on many of the main commodity currencies including the Australian, Canadian and New Zealand Dollars. 

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