After months of selling pressure driven by President Donald Trump‘s aggressive tariff rhetoric and mounting expectations for Federal Reserve rate cuts, the U.S. dollar is showing fresh signs of life — putting pressure on one of Wall Street's most crowded short trades of 2025.
While speculators continue to heavily short the U.S. dollar, the extreme buildup in positioning and emerging political risks may trigger an unexpected greenback reversal.
The latest Commitments of Traders (COT) report shows non-commercial net short positions on U.S. Dollar Index futures reached -10,334 in late September. That's the most bearish positioning since February 2021 — a level that historically coincides with local bottoms in the greenback.
Dollar Snaps Back: Best Week In Over A Year
The dollar index (DXY) – as tracked by the Invesco DB US Dollar Bullish Index Fund (NYSE:UUP) – has rebounded to 99.4 levels as of Thursday, and is up 1.8% since Monday. That puts the greenback on track for its strongest weekly performance since September 2024.
The rebound follows four straight days of gains, pushing the dollar back to early August levels, before a cooler-than-expected U.S. jobs report deepened the selloff.
Past episodes where traders reached similar levels of bearishness on the dollar were followed by swift greenback recoveries, as over-leveraged positions unwound.
But the current rally is not being driven by expectations around interest rate policy. Markets are still pricing in a 25-basis-point cut at the Federal Reserve's upcoming Oct. 30 meeting, with an 80% chance of an additional cut in December.
Economic data releases are delayed due to the ongoing government shutdown in Washington. This leaves markets to trade without key macro signals.
What's Fueling The Dollar Unexpected Rally?
Two forces appear to be shifting sentiment toward the dollar — global currency dynamics and U.S. political shifts.
The dollar has surged 3.8% against the Japanese yen this week alone, rising five straight sessions by the widest margin in a year. Japan's new Prime Minister, Sanae Takaichi, is viewed as a monetary and fiscal dove, increasing the likelihood of looser policy that weakens the yen.
“The Japanese yen is likely to come under relative pressure,” said BNY Investment, adding that Takaichi’s uncertain fiscal path and the chance of more government interference could “result in more pain for the yen.”
Are Midterms Already Moving The Market?
Looking further out, investors may be starting to price in potential political shifts.
While midterm elections are still 13 months away, Democrats have outperformed expectations in 2025's special elections.
According to The Downballot, Democrats have improved their margins by over 15% across 42 state and federal races compared to Kamala Harris's 2024 performance in those same districts.
In all but six contests, Democratic nominees beat Harris's vote share — even in staunchly conservative regions.
While a direct link between special elections and midterm outcomes remains speculative, the data is too significant for markets to ignore.
Political uncertainty, coupled with an overextended short trade, could make the dollar a contrarian buy for the upcoming months.
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