Looking at this week’s Commitments of Traders Report, speculators are selling inflation-sensitive currencies including the Japanese yen and the Swiss franc. The British pound remains out of favor following both poor economic data and weak guidance from the Bank of England. Finally, speculators also dumped positions in the Australian dollar, thanks to ongoing US-China trade tensions. The net result of these changes is a significant build-up of US dollar positions. While speculators remain net short USD, the size of the net short position has fallen significantly over the last three weeks.

Looking at extremes in speculator positioning, net long positions in crude oil and the Japanese yen are no longer at a bullish extreme this week. Instead, net short positions in the Swiss franc are now at a bearish extreme based on trailing 12-month and 36-month averages. With almost 33,000 futures and options contracts short the Swiss franc, bearish positioning in the currency is at multi-year highs.

The purpose of this weekly report is to track how the consensus is positioned across various major currencies and commodities. When net long positions become crowded in either direction, we flag extended positioning as a risk. Crowded positions do not suggest an imminent reversal, but should be considered as a significant risk factor when investing in the same direction as the crowd. This is shown below:

CFTC COT speculator positions (futures & options combined) – May 8, 2018

Source: CFTC, MarketsNow

Notable extremes, significant changes in weekly positions, and large net positions as a proportion of open interest are highlighted above. Extremes in net positions are highlighted when speculator positioning is more than two standard deviations above trailing 1-year and 3-year averages. Weekly changes are highlighted when they are significant as a proportion of open interest. Finally, net positions as a proportion of outstanding interest are highlighted when they are large relative to historical averages. 1-year and 3-year z-scores are visually represented below:

1-year and 3-year z-scores based on net speculator positions

Source: CFTC, MarketsNow

Following Trump’s decision to walk away from the Iran nuclear deal, expectations for inflation are rising thanks to increasing crude oil prices. Given the importance of crude oil as an input cost, rising commodity prices tend to stoke higher prices (i.e. inflation). As a result, speculators are shorting currencies with the loosest monetary policies such as the Swiss franc and the yen. While the yen and the franc remain out of favor, we contend that shorting safe haven currencies in an environment of slowing global growth is a risky trade. Despite the current bearish outlook on the Japanese yen, we contend that the yen is likely to move up if global growth continues to decelerate.

Looking at the British pound, speculators ran for the exits even before last week’s Bank of England rate hike decision on May 10. Thanks to weak economic data and Carney’s reputation for playing it safe, the number of contracts net long GBP fell by almost 16,000. Turning to the Australian dollar, speculators are more meaningfully short the currency this week thanks to increasing US-China trade tensions. Unfortunately, recent short positions in the AUD are losing money after the currency staged a big rebound late last week.

As speculator sentiment towards major currencies including JPY, CHF, AUD and GBP deteriorate, the US dollar is the primary beneficiary. In last week’s edition of our analysis of the COT Report, we stated that the US dollar was looking overbought on a short-term time frame. After making a top on May 9, the dollar has been weakening and no longer looks overbought. Now that the dollar is no longer looking overbought, the currency can continue strengthening and remains in a bullish trend.