Dollar Weakness And Middle East Risks
Market focus remains on whether energy flows can return to normal through the Strait of Hormuz. The route is described as effectively closed, which could raise the risk of an energy price shock if it continues for weeks or months. Foreign exchange markets may remain volatile while conflict and supply disruption persist. Volatility has increased more in emerging market currencies than in G10. JPMorgan’s one-month EM FX volatility gauge is at its highest level since last April, following President Trump’s “Liberation Day” tariff announcements. G10 FX volatility remains well below last April’s levels. The US Dollar is under pressure again, and we remember a similar situation last year following a brief de-escalation in the Middle East. Back then, the dollar index fell sharply toward 98.88 after failing to clear the 100.00 level. Today, with the index currently trading much higher around 104.35, the lessons from that 2025 sell-off are critical for our positioning.Positioning And Hedging Considerations
Last year, President Trump’s decision to pause military action against Iran temporarily unwound the dollar’s risk premium. We are seeing a similar premium build now due to ongoing supply chain concerns and diplomatic friction in Asia. Any sudden positive development could trigger a rapid dollar sell-off, just as it did in 2025. What matters most, as it did then, is the risk to energy supplies, which was centered on the Strait of Hormuz in 2025. While that specific issue was resolved, recent disruptions in other key shipping lanes have already pushed Brent crude up 4% this month to over $91 a barrel. This reminds us that a negative energy price shock for the global economy is an ever-present risk. We should expect foreign exchange markets to remain volatile, meaning derivatives can offer essential protection. We saw last year how JPMorgan’s measure of emerging market FX volatility spiked much higher than G10 volatility during that crisis. Traders should consider buying options on EM currencies, as they are likely to overreact to geopolitical news compared to the majors. While G10 FX volatility is still below the peaks seen after the “Liberation Day” tariff announcements of last April, it is creeping higher. Given the dollar’s current strength, purchasing out-of-the-money put options on the dollar index could be a cost-effective hedge. This prepares portfolios for a sharp reversal if geopolitical tensions were to ease unexpectedly. Create your live VT Markets account and start trading now.
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