Dollar Faces Multiple Challenges as Trade Tensions Escalate and Data Looms

The US dollar is navigating multiple challenges as it starts the week, influenced by various factors including the bond market, trade tensions, and upcoming data releases.

The bond market has been a key driver for the dollar, with a strong session allowing it to find support. The Treasury's potential use of its account at the Federal Reserve (TGA) to fund buyback operations for long-dated debt was reported by CNBC yesterday. This move is seen as equivalent to buying back bills issued today versus running down the TGA and issuing bills later, suggesting it won't significantly impact the bond market.

The escalating trade tensions between the US and Canada are also affecting currencies, particularly the Canadian dollar. The imposition of 50% tariffs on Canadian autos and parts from January 1 has left room for negotiations but keeps both sides firmly in conflict territory. We expect the rebound in the CAD to continue beyond 1.390.

The US's large sanctions package against Iran and its threat to other countries with economic punishment if they don't cut ties are also being closely watched. Any serious revival of the US-China trade spat would be negative for the dollar, mirroring last year's correlation between USD and the issue. The US-Canada dispute could amplify this negative reaction.