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U.S. Dollar: Analysts say "Stay Nimble" and "Prepare to Ditch the Dollar" as Trump and China Square Off Again

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- USD falls as market awaits White House's next "trade war" move.

- China threatens retaliation, to cancel talks, if $200 bn tariffs imposed.

- TD Securities say "stay nimble", ING Group prepare to "ditch the Dollar".

The Dollar edged lower against most currencies Monday as traders await the next move in President Donald Trump's so-called "trade war" with China, following a series of reports suggesting tensions could escalate in coming days. 

President Trump intends to impose tariffs on $200 billion of China's exports to the U.S. this week, according the Wall Street Journal. The move is said to be aimed at raising pressure on China ahead of bilateral talks Treasury Secretary Stephen Mnuchin is believed be organising, but it might not work. 

"While Washington extends a carrot to Beijing, it is also swinging a stick. It is nothing new for the US to try to escalate tensions so as to exploit more gains at the negotiating table. The unilateral and hegemonic moves by the US will meet firm countermeasures from China...China will not just play defense," the Global Times says.

The Global Times, a foreign policy journal of the Communist Party-owned People's Daily, published an editorial Monday in which it claimed such a move would simply beget more retaliation. And the Wall Street Journal cited Chinese diplomatic sources for its claim that China will not attend the latest round of talks if Trump moves ahead with the levies.

"After brief hiatus, the trade war theme is back to start a new week," says Mark McCormick, North American head of FX strategy at TD Securities. "At this stage, it is entirely possible that talks proceed, but it is also clear that Trump wants to maintain a hardline position on this front, suggesting more rounds of price action pinball."

It is not clear what actions China will take in order to return the blows landed by the White House, although the country had a substantial $375 billion goods trade surplus with the U.S. in 2017 so presumably it will always be outgunned by Trump when it comes to tariffs. 

TD's McCormick says trading clients shoud "stay nimble" and focus on scoring "singles and doubles rather than the big home run" with their trading. Market unease over the "trade war" has been good for the Dollar so far, but that is with China having responded only by imposing its own smaller retaliatory tariffs.

The world's two largest economies have been locked in an escalating dispute this year over Washington's allegations that China uses "unfair" trading practices that, among other things, force American companies operating in the country to hand their intellectual property over to Chinese companies.

Trump has announced the intention to impose tariffs on Chinese exports worth a total of $250 bn while China has retaliated with levies of its own on more than $60 billion of U.S. goods going in the other direction. But the White House said last week it could go ahead and impose tariffs on a further $267 billion of Chinese trade if it retaliates again. 

So far the "trade war" has been good for the Dollar because it has stoked fears of an economic slowdown in the world's second largest economy, which markets have wasted no time in exploiting. Anticipation of a slowdown has supported the  safe-have Dollar while driving an exodus of capital from vulnerable and high risk emerging market economies.

"This backdrop fits with the singles and doubles thesis we laid out Friday, which argues not to get too invested in a single trade idea and to remain nimble," says McCormick.  

The greenback has risen to a 2.5% 2018 gain in recent months after more than reversing a 4% loss wracked up in the first quarter. In addition to unease over the trade war, its has been further supported by a robust stimulus-induced performance from the U.S. economy coming at a time where growth elsewhere in the world has begun to wane.

This has enabled the Federal Reserve to go on raising its interest rate while other central banks have sat on their hands. The Fed is expected to raise rates again at the end of September, making for its eigth interest rate rise since the end of 2015, which should leave the top end of the Federal Funds rate at 2.25%.

However, some see the Dollar's days in the sun as being numbered now the November midterm elections are approaching. This igiven the extent to which the currency's gains have also been supported by a superior economic performance and the degree to which this itself is the result of President Trump's tax cuts and reforms. 

"With a narrowing focus on the US midterm elections (Nov 6) and US politics – as well as fast-money investors holding substantial aggregate long USD positions – we think the market narrative over the next few months could well transition from ‘default to the dollar’ to ‘ditch the dollar'," says Viraj Patel, an FX strategist at ING Group

Patel and the ING team say the U.S. Republican Party is likely to lose its majority in the House of Representatives come November, which will make it more difficult if-not-impossible for Trump to pass legislation and could even aid a Democrat push to have him impeached. 

They also say US economic growth and inflation are likely to have peaked this year, which could help to further turn the tide of market sentiment against the Dollar over coming months. As a result, ING's currency team recommends that clients of the bank sell the Dollar and buy both Euros and Japanese Yen instead.

The US Dollar index was quoted 0.36% lower at 94.61 Monday while the Pound-to-Dollar rate was 0.62% higher at 1.3132 and the EUR/USD rate was up 0.47% at 1.1676. 

 

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