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US Dollar Pullback Driven by Chinese Yuan, Turkish Lira Strength

US Dollar Pullback Driven by Chinese Yuan, Turkish Lira Strength

2018-08-16 14:21:00
Christopher Vecchio, CFA, Sr. Currency Strategist
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Talking Points:

- USD/TRY continues to pullback, largely driven by changes in government policy rather than market participants deeming that the US-Turkish diplomatic fallout is on the path towards resolution.

- With US-China trade talks set to resume, USD/CNH has been dragged lower as well, helping global risk appetite recover.

- Retail traders remain net-long EUR/USD and GBP/USD, suggesting any rallies should be faded.

See our longer-term forecasts for the US Dollar, Euro, British Pound and more with the DailyFX Trading Guides

The US Dollar (via the DXY Index) is falling for the first time since August 8 as emerging market currencies like the Chinese Yuan and Turkish Lira continue to recover ground. US equity markets have opened higher, and US yields have risen as traders have turned away from the safety of both the US Dollar and US Treasuries, if only temporarily.

While the reversals seen in USD/CNH and USD/TRY are proving to bolster risk appetite, there is the question about how viable these turns in sentiment are. The most legitimate positive development has been the restarting of trade talks between China and the US, in an effort to prevent the trade war from spiraling further out of control.

But the news of trade talks restarting are being discussed with a large grain of salt, insofar as expectations are extremely low for any sort of progress being made to end the US-China trade war. Instead, the pullback in USD/CNH has been largely driven by a change in Chinese policy that has made shorting the offshore yuan more expensive.

If this sounds familiar, it should: yesterday, we noted how Turkey was doing something similar: "the government's decision to limit the total amount of foreign currency and lira swap and swap-like transactions to no more than 25% of banks’ legal shareholder equity, is essentially a measure designed to make it harder for foreigners to short the Lira."

Accordingly, both the USD/CNH and USD/TRY pullbacks, while good for risk appetite in the short-term, are being driven by measures to mask the underlying causes of the issues. If market participants were truly on board with the idea of resolution to both the Chinese and Turkish problems materializing in the short-term, we'd be seeing bigger reversals in pairs like AUD/USD, EUR/USD, and USD/ZAR.

DXY Index Price Chart: Daily Timeframe (June 2017 to August 2018) (Chart 1)

US Dollar Pullback Driven by Chinese Yuan, Turkish Lira Strength

All of this leaves the US Dollar (via the DXY Index) in the fundamental position of being eyed as a 'buy on pullbacks' candidate. The technical structure of the DXY Index remains bullish, with price continuing to hold above its daily 8-, 13-, and 21-EMA envelope. Likewise, both daily MACD and Slow Stochastics continue to trend higher in bullish territory.

In terms of support for the recent breakout, we're keeping an eye on the daily 13-EMA, which price hasn't closed below in the month of August so far; a daily close below said moving average would suggest the impulse that has carried the DXY Index higher the past few weeks is exhausted.

Read more: DXY Index Extends Gains as EM Pressure Continues to Build

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--- Written by Christopher Vecchio, CFA, Senior Currency Strategist

To contact Christopher Vecchio, e-mail cvecchio@dailyfx.com

Follow him on Twitter at @CVecchioFX

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