Extremely crowded dollar-short position is tough to believe but might be an opportunity

<p>The latest CFTC weekly report on forex futures positioning data <a href="https://www.bloomberg.com/news/articles/2023-07-24/dollar-bearish-bets-climb-to-record-high-among-asset-managers?srnd=premium-uk&amp;sref=ZVajCYcV#xj4y7vzkg" target="_blank" rel="nofollow">shows </a>that US dollar net shorts are at a record, <a href="https://www.reuters.com/markets/funds-build-biggest-short-dollar-position-since-march-2021-mcgeever-2023-07-24/" target="_blank" rel="nofollow">or at the widest since 2021</a>, depending on who you ask. The net short position for the week ending July 18 rose 18% to 568,721 contracts.</p><p>That's a remarkable move considering there is no particular catalyst for the dollar and no obvious reason to buy other currencies. </p><p>Normally, my inclination is to see this report as a proxy for overall speculative forex positioning in the much-large world of spot and derivatives FX but I might make an exception this time. The positioning data just seems so out-of-whack with what I would expect. If it's legit, it sets up a great opportunity to buy the dollar. The playbook for speculative positioning is to fade it when it gets extreme.</p><p>Some analysts are arguing that this is a sign that US inflation is poised to fall back to target. I agree that inflation is coming down but it's coming down everywhere and economic data in Europe is struggling, as shown by today's <a href="https://www.forexlive.com/news/germany-july-flash-manufacturing-pmi-388-vs-410-expected-20230724/" target="_blank" rel="follow">German </a>and <a href="https://www.forexlive.com/news/uk-july-flash-services-pmi-515-vs-530-expected-20230724/" target="_blank" rel="follow">UK </a>PMIs.</p><p>Breaking down the position, it's largely against the euro and yen. The latter is the reason why this might be giving off a false signal. The potential for a surprise shift from the Bank of Japan in the next few months (or days) is real and it will lead to a plunge in USD/JPY. It could be that futures traders are using the market to hedge FX risk in that pair in the most-liquid way possible, while minimizing counter-party risk.</p><p>The pound position is also crowded with the long-GDP position at a 16-year high. Again, that's something I believe is worth leaning against but at least there's positive potential carry involved, especially on talk of the BOE hiking to 6%.</p><p>Overall, this appear to me to be news that's almost too-good-to-be-true but I think it sets up a great spot to buy the dollar as I think this is a false breakdown in the Dollar Index.</p>

This article was written by Adam Button at www.forexlive.com.