Our positive dollar view has been driven by two factors over the course of the year. First, the re-pricing of the Fed. The market was pricing a rate path that was even more dovish than the FOMC’s own projections at the beginning of the year. This has now corrected, with June 2016 Fed funds inside the 1.3-1.8% range of dovish Fed Taylor rules. Second, flows. While US portfolio inflows remain weak, the big driver has been a surge in short-term flows, a combination of cash, hedging and speculative activity (chart).
Looking ahead to H2, both Fed pricing and flow need to provide further fuel to keep our bullish view on track. On the Fed, the risks seem to be skewed towards the market shifting towards a more aggressive Fed fund path driven by what we expect to be a GDP growth acceleration to 3%, speculation around a potential Summers chairmanship aside. Subsiding fiscal drag and very positive data seasonality into September should help
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