MUFG’s Lee Hardman reports that the US Dollar has rebounded sharply following the launch of Operation 'Epic Fury,' which has triggered a fresh energy price shock and heightened geopolitical risks in the Middle East [1]. This rebound has pushed the Dollar index back toward the 96.000–100.00 range, fully reversing losses recorded earlier in the year and positioning the index to test the upper end of its trading range established since Q2 of last year [1].
Three main factors are cited for the Dollar's strength: First, economies in Asia and Europe are experiencing a larger negative terms of trade shock from higher energy prices compared to the United States [1]. Second, the rise in energy prices has led US rate market participants to scale back expectations for further Federal Reserve rate cuts this year, reinforcing market expectations that the Fed will leave rates on hold during the first half of the year [1]. Third, a squeeze in short-USD positions is providing additional support, as leveraged funds have built up short USD positions to their highest level since March 2022, according to the latest IMM report [1].
Despite the current momentum, MUFG expects the USD rebound to be temporary, with forecasts assuming that Operation 'Epic Fury' will last weeks rather than months [1].
CONCLUSION
The US Dollar has staged a strong rebound driven by an energy price shock and shifting Fed rate expectations, but MUFG anticipates this strength will be short-lived if Operation 'Epic Fury' is brief. Market participants should monitor geopolitical developments and energy prices closely, as these factors are currently driving USD volatility.