The US dollar trades sideways as Fed Minutes clear up doubts about rate cuts

VaselineAugust 22, 2024

0 6 minutes read

The US dollar trades sideways as Fed Minutes clear up doubts about rate cuts

The US dollar is struggling to find support as traders see Fed rate cuts as a given.
All eyes will be on Fed Chairman Jerome Powell in Jackson Hole to confirm the cuts.
The US dollar index is trading just above 101.00 and could drop to 100.00 if weak sentiment persists.

The U.S. dollar (USD) is trading broadly flat after selling off sharply at the start of the U.S. session on Wednesday, triggering another lower toward a fresh 2024 low. The non-farm payrolls review highlighted 818,000 fewer jobs than previously estimated, the biggest downward revision in more than a decade, confirming market concerns about the US labor market. Later, the release of the Fed’s minutes for the July meeting confirmed that some members of the Federal Open Market Committee (FOMC) had promised a rate cut back then, making the move all but certain in September.

While it seems like nothing can go wrong, big warning signs still need to be issued here. Federal Reserve and Fed Chairman Jerome Powell has already said many times that the risk of tapering too soon is one of their biggest fears. With August’s preliminary Purchasing Managers’ Index (PMI) numbers coming in, any strong figures could dampen hopes of either a big cut in September or further cuts.

Daily market reasons: the cat is out of the bag

Markets are struggling to read the PMI numbers in Europe. France saw an increase in Services PMIs, driven by the Olympics, while Germany saw its Services PMIs come in below expectations. The German manufacturing component fell further in the contraction, which is bad news for Europe’s main economy.
At 12:30 GMT, weekly US jobless claims are due:
- Initial jobless claims are expected to rise to 230,000 from 227,000.
- Continuous claims were 1.864 million last week. There is no forecast available.
At 13:45 GMT, S&P Global will release preliminary US PMIs for August:
- The Services Index is expected to remain fairly steady, falling to 54 from 55 a month earlier.
- The manufacturing index is not expected to move, remaining in contractionary territory at 49.6.
- The Composite Index is seen falling to 53.5 from 54.3.
At 14:00 GMT, existing home sales are due. Given the recent sharp drop in mortgage applications in Mortgage Bankers Association data released Wednesday, a drop in existing home sales for July is also expected. Sales were down 5.4% from the previous month.
The Kansas Fed manufacturing activity monitor for August will be released at 15:00 GMT. Previous printing was -12.
Asian equity markets are broadly in the green on anticipation that Fed rate cuts are now inevitable. However, US futures are lagging behind with fairly steady trading.
The CME Fedwatch tool shows a 67.5% chance of a 25 basis point (bps) interest rate cut by the Fed in September, compared to a 32.5% chance of a 50 basis point cut. Another 25 bps cut (if September is a 25 bps cut) is expected in November by 39.7%, while there is a 46.9% chance that rates will be 75 bps below current levels and a likelihood of 13.4% for rates to be 100 basis points lower. .
The benchmark US 10-year yield is trading at 3.81%, marking a new low for the week.

Economic indicator

S&P Global Services PMI

The S&P Global Services Purchasing Managers Index (PMI), released monthly, is a leading indicator that assesses business activity in the US services sector. Since the services sector dominates a large part of the economy, the services PMI is an important indicator that assesses the state of general economic conditions. The data are derived from surveys of CEOs from private sector companies in the service sector. Survey responses reflect the change, if any, in the current month compared to the previous month and may anticipate changing trends in official data series such as Gross Domestic Product (GDP), industrial production, employment and inflation. A reading above 50 indicates that the services economy is generally expanding, a bullish sign for the US dollar (USD). Meanwhile, a reading below 50 signals that activity among service providers is generally down, which is seen as bearish for the USD.

US Dollar Index Technical Analysis: It Could All End In Tears

The US Dollar Index (DXY) has dropped like a rock this week and will most likely not be able to avoid a weekly loss. However, traders should refrain from taking a massive plunge in an attempt to jump on the “sell the dollar” bandwagon, as there are a few things to keep in mind. Markets currently expect a rate cut of 75 bps by November. This is a very large discount, given that the Fed is still dependent on the data up to this date.

Against this backdrop, there is a high risk for a sharp upward correction in DXY to recoup some earlier losses. If US PMI numbers remain strong or even rise further, and Fed Chairman Jerome Powell says the Fed remains data-dependent and will want to watch recent data first before considering starting tapering, it would be a big disappointment for the markets. Retailers seem to be expecting too many toys from Santa, while Santa might say he’ll want to wait with his gift deliveries to make sure the market has been good enough.

Looking to the upside, DXY faces a long road to recovery. First, 101.90 is the level to claim. A steep 2% rally would be needed to bring DXY to 103.18 from where it is now trading around 101.00. A very high resistance level near 104.00 not only holds key technical value, but also carries the 200-day simple moving average (SMA) as the second heavyweight limiting price action.

On the downside, 100.62 (December 28 low) will be the next vital support to avoid another crisis. Should it break, the July 14, 2023 low at 99.58 will be the ultimate level to watch.

US Dollar Index: Daily Chart

US Dollar FAQ

The US dollar (USD) is the official currency of the United States of America and the “de facto” currency of a significant number of other countries where it is found in circulation alongside local banknotes. It is the world’s most heavily traded currency, accounting for more than 88% of total global foreign exchange turnover, or an average of $6.6 trillion in transactions per day, as of 2022. After World War II world, the USD has taken over from the British pound as the world’s reserve currency. For most of its history, the US dollar was backed by gold, until the Bretton Woods Agreement in 1971, when the gold standard disappeared.

The most important factor influencing the value of the US dollar is monetary policy, which is shaped by the Federal Reserve (Fed). The Fed has two mandates: to ensure price stability (inflation control) and to promote full employment. Its main tool for achieving these two objectives is the adjustment of interest rates. When prices rise too fast and inflation is above the Fed’s 2% target, the Fed will raise rates, which helps the value of the USD. When inflation falls below 2% or the unemployment rate is too high, the Fed can lower interest rates, which affects interest rates.

In extreme situations, the Federal Reserve can also print more dollars and engage in quantitative easing (QE). QE is the process by which the Fed substantially increases the flow of credit in a stuck financial system. It is a non-standard policy measure used when credit has dried up because banks will not lend to each other (for fear of default). It is a last resort when simply lowering interest rates is unlikely to achieve the desired result. It was the Fed’s preferred weapon to combat the credit crunch that occurred during the Great Financial Crisis of 2008. This involves the Fed printing more dollars and using them to buy US government bonds, mainly from financial institutions . QE usually leads to a weaker US dollar.

Quantitative tightening (QT) is the reverse process whereby the Federal Reserve stops buying bonds from financial institutions and does not reinvest the principal of maturing bonds it holds in new purchases. It is usually positive for the US dollar.

VaselineAugust 22, 2024

0 6 minutes read