Should we wait for the USD to reverse in the bullish direction or will it keep falling?

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The USD index reached three-week highs around 90.7 points on Monday.

Large-scale stimulus plans for the U.S. economy announced by recently elected President Joe Biden, along with expectations of earlier policy tightening by the Fed, have supported the greenback and helped it bounce back from levels not seen since March 2018.

Most analysts still adhere to bearish views about the US currency.

According to them, the expected increase in fiscal stimulus in the United States will lead to an increase in the country's budget deficit and current account, and this will significantly reduce the attractiveness of investments in USD.

"Higher yields in the US are causing the dollar to rebound, but stimulus measures may support US stocks, and the greenback will remain weak. Therefore, we maintain a bearish attitude towards the US currency in the medium term," Citigroup strategists said.

In turn, ING experts noted that Federal Reserve representatives are likely to reject any assumptions about the reduction of monetary support for the national economy.

"Any comments related to the Fed's policy are likely to rule out any curtailment of monetary stimulus in the foreseeable future. This gives us confidence in our bearish outlook for the USD," they said.

However, there are also those who believe that the dollar can grow against the background of a strong rise in US yields.

"There is still ample growth potential after the dollar depreciated by at least 10% against its major rivals last year," said Thu Lan Nguyen, an analyst at Commerzbank.

"If fiscal support makes the Fed less inclined to re-ease monetary policy, this will lead to a further increase in the dollar," she said.

Morgan Stanley changed its short-term bearish forecast for the USD, citing possible changes in US fiscal policy.

"We are taking a neutral position against the dollar due to obvious distortions in market positioning and are waiting for signals to turn in the bullish direction, " the bank's experts said.

"The Democrats' victory in Georgia last week dramatically increased the likelihood of new stimulus. According to our estimates, this quarter, the US authorities can pour another $1 trillion into the national economy to smooth out the adverse effects of the coronavirus. Given the upcoming changes in fiscal policy, we believe that the dollar exchange rate and the real yield on US bonds will begin to create a low," they added.

Thus, the dollar's future fate will largely depend on the ability of the new US administration to approve the next package of assistance to the national economy and spur inflation expectations in the country.

The greenback took a breather on Tuesday after the strong growth noted a day earlier, which helped the main currency pair to somewhat stabilize. Today, it is trading in a narrow range of 1.2140-1.2160.

Investors prefer to remain cautious, waiting for the release of US macroeconomic reports, including the report on the consumer price index in the country, which will be published on Wednesday. Analysts expect annual US inflation to accelerate to 1.3% in December from November's 1.2%.

Market participants also continue to follow the political drama that unfolds in Washington. The chances that Donald Trump will have time to resign in the remaining few days before the end of his presidential term are decreasing, but the threat of new protests in the United States is increasing.

"After the breakout of 1.2208, the EUR/USD pair formed a small top, and the next support is now located in the 1.2122-1.2129 area. At first, the pair may rebound from it, but over time, it will still make a breakthrough and take a course at 1.2059-1.2065. The pair will try to form a base here," Credit Suisse strategists believe.

"Resistance is marked at 1.2231, and surpassing 1.2285 will weaken the current bearish mood and make it possible for the pair to retest the 1.2345-1.2355 area, the breakdown of which will revive the basic bullish trend and introduce resistance at 1.2414, 1.2477 and 1.2518," they added.

The material has been provided by InstaForex Company - www.instaforex.com