Credit Agricole CIB Research discusses the USD outlook in light of the recent developments in the Middle East conflict.

"FX investors thus seem to believe that the TACO (ie, “Trump Always Chickens Out”) trade is very much alive & well and that the end of the conflict with Iran is drawing close, making risk assets attractive and weighing on the USD across the board. We disagree with the above explanation for several reasons: (1) the blockade of the Strait of Hormuz need not lead to a de-escalation anytime soon, given how far apart the US and Iran remain on a number of key issues; (2) the benign market response so far could ‘encourage’ the US to ramp up pressure on Iran and to re- escalate the conflict; and (3) while some of the recent US data has disappointed, large swathes of the economy still seem robust enough to help the economy outperform the likes of the Eurozone and the UK," CACIB notes.

"We conclude that the US blockade could drag on, restrict global energy supply further and increase the risk of growth-negative energy demand cuts by energy importers. We thus doubt that investors can have their TACO and eat it too and disagree that the latest risk rally can continue unimpeded," CACIB adds.