USD: US dollar strength amid economic resilience and China concerns

Despite the release of only second-tier US data overnight and sharply lower USD/CNY fixes (today was the third fix below 7.20), which indicates Chinese authorities' intention to slow the pace of the yuan's depreciation, the USD dollar still exhibited strength overnight.

Factors behind overnight dollar strength

Overnight US dollar strength was mainly due to EUR/USD weakness ahead of tonight's Euro Zone flash purchasing managers' index (PMIs), previewed here, and safe-haven buying. S&P's credit rating cuts on several regional US banks due to higher funding costs and their exposure to commercial real estate also contributed to this strength.

Additional support for the US dollar can also be attributed to nerves ahead of tonight's Treasury's $16-billion 20-year bond auction. Since their relaunch in 2020, 20-year bond auctions have consistently disappointed investors. With long-end yields at multi-year highs, there is minimal room for disappointment from tonight's auction.

Before currency traders shift their attention to the Jackson Hole Economic Policy Symposium, tonight sees the release of preliminary August global PMIs, which will provide further insight into the trajectory of the US economy and the Federal Reserve Bank's tightening cycle.

What is expected from the flash PMIs?

The Manufacturing PMI has only registered above 50 once in 2023, which occurred in April. For this month, the market anticipates another modest reading of 49, compared to the previous 49.

The Services PMI has been situated in an expansionary range since February 2023, supported by the transition from goods to services. However, following its peak at 54.3 in May, indications of deceleration have emerged. It is expected that there will be a third consecutive decrease in August, with the index dropping to 52.2 from the prior 52.3.

The Composite PMI is projected to decrease to 51.5 in August from the earlier reading of 52, thereby maintaining the prevailing "goldilocks" narrative—characterized by a balanced state of neither being excessively hot nor overly cold.

DXY technical analysis

During the first half of 2023, the US dollar index, the DXY, tested and maintained support at 101.00/80 on three separate occasions before declining following the release of softer-than-expected inflation data in mid-July.

Continuing our highlights since late July, the rapid recovery back above 101.00/80 revealed the post-CPI sell-off to the low of 99.57 as a false break lower. For adherents of Elliott Wave theory, this is interpreted as a Wave V low, subsequent to the culmination of a five-wave impulsive sequence originating from the high of September 114.78, as illustrated in the chart below.

With the DXY currently positioned at multi-month highs, surpassing trend line resistance, and with the 200-day moving average at the 103.50 vicinity, we anticipate the corrective rally in the DXY to recommence after the Jackson Hole event, progressing towards the subsequent upside level, represented by the peak of May 104.69.

This would be followed by year-to-date highs at 105.88. It's noteworthy that the 50% retracement of the five-wave decline, spanning from the high of October 114.78 to the low of July 99.57, stands around 107.20ish.

DXY daily chart