The dollar has seen a rebound in the last two weeks, mainly due to tariff threats from Trump. This situation raises questions about what comes next for the dollar, especially with possible tariffs starting on August 1. Currently, many believe that tariffs haven’t had a major effect on US inflation, although they could in the future.

Dollar Recovery Influences

If tariffs do rise, it could complicate how we interpret inflation data. The dollar’s recent gains are primarily due to a short squeeze, yet it might have been stronger without Trump’s influence on the Fed and the cautious remarks from Waller and Bowman. We can see the dollar’s upward trend in the EUR/USD chart, even with shifting market sentiments. Technical analysis is crucial for understanding the short squeeze, especially since the dollar has been declining since April. Any recovery now might not mean a complete turnaround. With the approaching tariff deadlines and possible policy shifts, the dollar’s rebound remains uncertain. As Wall Street hits record highs, many wonder if other markets—like foreign exchange and bonds—will follow suit. Charts continue to be important for evaluating the dollar’s future in this environment. We view the current dollar rally as a classic short squeeze driven by heavy trading. Recent CFTC data shows that big speculators held a large net short position against the dollar, setting the stage for a painful unwind for those betting against it. This indicates that any positive news for the dollar could trigger more short-covering soon. Given the significant risk of the August 1 tariff deadline, we recommend using options as a smart strategy. Buying short-term dollar call options or put options on pairs like the EUR/USD allows you to take advantage of a possible tariff-driven rally while clearly limiting your potential loss. Implied volatility for these currency pairs has already increased, indicating that the options market expects a significant price move.

Monetary Policy Impact

However, the cautious stance from policymakers, like Mr. Waller, has limited this rally. The market anticipates a high chance of a rate cut in September, with the CME FedWatch Tool showing odds above 60%. This outlook on monetary policy could hinder a prolonged dollar rally. Looking back at the trade conflict from 2018-2019 offers helpful insights into what might happen next. During that time, the U.S. Dollar Index (DXY) initially gained strength as safe-haven demand rose amid global growth concerns, increasing over 8% even as tariffs were imposed. This history shows that a complicated trade situation can surprisingly boost the currency in the short term, despite long-term economic consequences. From a technical standpoint, we are monitoring critical levels on the charts to understand how robust the squeeze is. If the dollar index breaks and stays above its 50-day moving average, it could signal a shift in trend from bearish to neutral. The divergence with the stock market hitting new highs suggests that foreign exchange traders have been more relaxed and may need to adjust quickly if market sentiment changes. Create your live VT Markets account and start trading now.

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