Shorting the USD has been the main theme in financial markets since the pandemic reached the Western World. After the Fed in the United States opened USD swap lines with the major developed world banks, the USD eased slowly but surely.
Moreover, the bulk of the selling took place during the summer months, when no one pays attention. The EURUSD, the most liquid currency pair, reached 1.20 in July, after only three months earlier, it traded close to 1.07.
Is the short USD trend likely to continue into the year’s end?
Extreme Short USD Positioning
Heading into the U.S. elections, the USD short positioning continues. According to a report by Bloomberg, the CFTC net non-commercial futures positions show extreme short positioning on the USD. In fact, speculators are shorting the dollar in almost three years.
Part of it is certainly due to the Fed shifting its mandate to average inflation targeting. If inflation comes, the USD should be the first one to reflect a general decline in prices.
However, whenever positioning is so extreme, the chances of a squeeze in the opposite direction, albeit only a temporary one, are rising. Could it be the case for the rest of the year?
Bloomberg’s report only shows the non-commercial futures positions. But if we consider all futures, traders sold another $2.5 billion, creating the biggest short dollar position in over nine years.
It means that investors used the recent USD strength to build up on their short dollar exposure. For example, the EURUSD eased from 1.20 to 1.16, the GBPUSD from 1.35 to 1.28, and the AUDUSD from 0.74 to 0.70. One can even see the positioning as all three pairs bounced from the recent lows, reflecting the USD shorting that took place.
However, trading is not that easy. If the USD does not make a new low (hint – eyes on the USD index), the risk is that the USD rally will continue. If that is the case, many traders will learn an expensive lesson about money and risk management, a lesson seeded in greed.
The wild card for the months ahead is the U.S. election. A change at the White House may lead to huge shifts in USD exposure from long-term investors. If that is the case, overleveraged speculators will have a hard time carrying the short USD positions on their books, and any short squeeze will accelerate a move in the opposite direction.