It’s no surprise that the dollar ripped so steeply on the detente in Sino-American trade relations announced by Treasury Secretary Scott Bessent Monday morning.
The two sides each agreed to a 115-percentage point reduction in tariffs that surpassed analyst expectations.
One glance at BofA’s recently released currency and rates sentiment survey would have indicated a sharp reversal was imminent in the event of any positive macro developments.
Short positioning in the dollar was near historic highs as evidenced by this chart illustrating it had become the highest conviction and most crowded trade among institutional investors.
When portfolio bias is this extreme, bets are very susceptible to reversing direction rapidly and so it proved with DXY index
DXY
+0.08%
rebounding a full point Monday to 101.62. This year’s trough was 98.28 barely three weeks ago.
An accompanying graphic suggested that fund managers have not yet rotated meaningfully out of longer-duration U.S. assets and so the outsized short interest in the dollar is a result of hedging rather than significant asset reallocation. This implies the biggest macro funds are interpreting April’s volatility to be more of a short-term correction than a long-term paradigm shift at this stage.
The spike in S&P 500 futures
ES00
-0.00%
and risk-on assets like bitcoin
BTCUSD
-1.23%
and Brent oil futures
BRN00
-0.29%
was exacerbated by three separate narratives coinciding: Bessent’s announcement of tariff reductions; the possibility of a peace conference in Istanbul this Thursday between Russia and Ukraine; the ceasefire deal agreed between India and Pakistan.
Respondents to the survey were canvassed between May 2 and May 7 so some of this exposure might have been trimmed in advance of the weekend when headline risk is at its highest.
A key concern shared by investors is the “almost unanimous” view that Trump policies will be stagflationary. Lower growth and higher inflation has brought exposure down at the long end of the curve but not wildly out of kilter at this stage
Other issues currently preoccupying fund managers are the notion — gaining significant traction of late — that U.S. exceptionalism has peaked and that U.S. fiscal concerns represent the staunchest headwind for the dollar.
What traders may infer from Monday’s market moves is that, rather than cutting anytime soon, the Fed is more likely to be on hold over the summer as a result of tariff wars being allayed. This may prompt yet more short-covering in the dollar.
