Australian dollar roars into full blown reflation

DXY through the floor!

AUD to the moon!

Crap complex of dirt, miners, junk and EM to the moon!

US yields tumbled:

Stocks are aiming at record highs:

It’s a full-blown reflation driven by the tanking DXY now without considering anything else. Deutsche:

We have had a bullish bias on EUR/USD throughout this year but tactically took profit in early May awaiting for more confirmation that dollar drivers are turning bearish. Today’s US inflation print is the last piece of evidence we have been waiting for to recommend going long EUR/USD again. We target 1.15 which is our year-end forecast, but as we have argued previously we see a 1.15-1.20 range by the end of the year as entirely possible.

First, we feel increasingly confident that the US disinflation process is well under way. We have been arguing this is the direction of travel for some weeks now, and have highlighted numerous underlying measures of CPI that have been quickly rolling over in recent months. With the latest US CPI print, these are likely to improve further, we would point to the Atlanta Fed sticky CPI metric which is now annualizing at below 2% (chart 1).

Second, the disinflation process looks increasingly benign. We have been arguing that the most bearish outcome for the dollar is a combination of declining US inflation under relatively OK growth conditions. In a world where the supply side is improving, both of these things can happen at the same time. In this context, the sharp contraction in global manufacturing does not have to be interpreted as a hardlanding signal but a healthy rebalancing of post-COVID excesses. To this we highlight ongoing improvements in labour supply, notably visible in the US primeage labour force participation rate in last week’s employment report (chart 2).

Third, with the market now having significantly hawkishly repriced the Fed compared to when we took profit in EUR/USD the risks around central bank pricing look a lot better than in May. It is notable that EUR/USD has proven a lot more resilient to this hawkish Fed repricing in recent weeks which we take as a signal that the FX market is starting to look through towards the end of the Fed hiking cycle.

In all, ongoing a confirmation that the US disinflation process is underway in soft landing conditions is for us the most important macro variable for the rest of the year. We would highlight the BoJ as the next biggest dollar event risk on the horizon: if the central bank was to finally move from extreme policy, it would serve to highlight how much further ahead the US is versus others in its disinflation process.

Beyond that, the next dollar driver that needs to fall in to place is a dovish Fed pivot acknowledging that the hiking cycle is done and the next move would be an easing.

We see conditions as increasingly falling into place for this to happen over H2 allowing our freshly released bearish dollar forecasts to be realized.

In due course, I expect:

• earnings to disappoint on crushed margins;
• China to disappoint on weak stimulus, and
• commodities to roll over.

However, these things are all deflationary too so we will reprice for Fed cuts and risk assets go to the moon!

We are on the left edge of the US dollar smile as it sags into the end of the cycle, whatever that looks like. I do not expect DXY to fall far relative to previous cycles given US economic leadership. But far enough.

I am long gold and AUD is off to the races.