Is the 'USD Smile' Losing its Luster? Question Marks Over the Dollar's Appeal 📉

According to Credit Agricole, the concept of the 'USD smile', which has traditionally viewed the USD as a high-yielding safe haven, is being questioned by investors. This skepticism has been fueled by the recent banking sector turmoil and the ongoing US debt ceiling debacle. These issues have raised concerns about the US economic outlook and led to increased expectations of Fed rate cuts. Furthermore, Credit Agricole points out that the 2023 FX landscape has seen a shift where once low-yield funding currencies like the CHF and EUR have become attractive, higher-yielding, safe-haven alternatives.

Is it the End of the USD Smile? Not Quite Yet 🏦

Despite the challenges, Credit Agricole argues that it's premature to declare the end of the 'USD smile'. The bank believes that continued Fed liquidity support could contain banking sector issues. Moreover, they see potential for an extension or temporary suspension of the US debt ceiling until September, which could lead the markets to scale back some of their Fed rate cut bets. This, in turn, could allow the US Treasury to boost its cash position through increased debt issuance over the summer, leading to a drain of USD liquidity and potentially creating USD scarcity.

USD: Stuck at the Bottom of the Smile, Ready for a Bounce Back? 🏋️

According to Credit Agricole, despite the headwinds, many of the negatives seem to already be priced into the USD's current position, stuck at the bottom of its eponymous smile. They suggest that an improvement in the outlook for US regional banks or more clarity on the debt ceiling could trigger a bounce in US rates and restore the 'USD smile' in the near term.