The US dollar is advancing to multi-week highs

VaselineOctober 4, 2024

0 7 minutes read

The US dollar is advancing to multi-week highs

US dollar index advances to multi-week highs after 102.00.
A soft landing for the US economy remains well on the cards.
Solid NFP figures defy bets for a 50 bps rate cut.

It’s been a stellar week for the US dollar (USD).

The greenback, tracked by the US Dollar Index (DXY), managed to rise for a fifth consecutive day on Friday, marking its first such streak since April. Furthermore, the index reversed four consecutive weeks of declines, which included a dip below the critical 200-week SMA at 100.56, and rose to new two-month highs, comfortably above the 102.00 level.

As we inferred last week, it’s not game over for the US dollar after the Federal Reserve (Fed) unexpectedly cut interest rates by half a percentage point at its September 18 meeting.

Several factors seem to underpin the US dollar’s performance this week: increased inflows into the safe-haven universe following Iran’s missile attack on Israel, easing bets for another jumbo rate cut at either of the Fed’s next two meetings by Chair Jerome Powell. message from Nashville and the robust US labor market report for September.

Meanwhile, a look at the dollar’s recent price action reveals a fairly solid conflict zone around the psychological 100.00 level, while the next significant upside target appears at the critical 200-day simple moving average (SMA) .

Geopolitics is pushing markets into a risk-averse position

The US dollar gained further momentum as global markets shifted to risk aversion this week following Iran’s October 1 missile strike on Israel. known as the “panic index”).

The flight-to-safety response further supported already strong demand for the Greenback, while simultaneously putting significant pressure on risk-sensitive assets.

Another jumbo rate discount? Not likely

After September’s unexpected 50 basis point rate cut, market participants are now focusing on the performance of the US economy to better gauge the likelihood of further rate cuts. This view was also reinforced by the Fed after it turned its attention to the labor market amid a sustained downward trajectory of inflation towards its 2% target.

Fed Chairman Jerome Powell said on September 30 that the US economy appeared poised for another drop in inflation, allowing the central bank to cut its benchmark interest rate further and eventually reach a neutral level that would does not restrict economic growth. Moreover, Powell suggested that cutting the interest rate level by 25 basis points at each meeting would be a kind of standard move.

However, not everyone at the FOMC seems to agree. In that regard, Governor Michelle Bowman recently emphasized the need for caution as key measures of inflation remain above the core 2 percent target, suggesting it may be time for the Fed to adjust monetary policy.

Along those same lines, Richmond Federal Reserve President Thomas Barkin noted on Wednesday that the central bank’s efforts to return inflation to its 2 percent target could take longer than expected, which could constrain the extent to which interest rates can be cut .

Supporting the view that another significant rate cut is a long shot, non-farm payrolls in September beat expectations, with the US economy adding 254,000 jobs and the unemployment rate falling to 4.1%.

Following Friday’s US jobs report, CME Group’s FedWatch now projects a 95% chance of a quarter-point interest rate cut in November, up sharply from nearly 45% just a week ago earlier.

Global outlook: Are interest rates rising or falling?

The Eurozone, Japan, Switzerland and the United Kingdom are facing rising deflationary pressures, with economic activity following a volatile trajectory.

In response, the European Central Bank (ECB) implemented its second interest rate cut earlier this month and adopted a cautious outlook on further action for October. Although ECB policymakers have not confirmed further cuts, markets anticipate two more cuts before the end of the year. Similarly, the Swiss National Bank (SNB) cut its rates by another 25 basis points this month.

The Bank of England (BoE) recently kept its policy rate steady at 5.00%, citing persistent inflation, high service sector prices, strong consumer spending and stable GDP data as factors in its decision.

Meanwhile, the Reserve Bank of Australia (RBA) kept rates unchanged at its September 24 meeting but maintained a dovish tone in subsequent remarks, with analysts predicting a potential easing by the end of the year or early 2025.

The Bank of Japan (BoJ) at its meeting on 20 September kept its stance accommodative and money markets expect only a modest tightening of 25 basis points over the next 12 months.

At the Crossroads: The Influence of Politics on the Economy

As the Nov. 5 election nears, recent polls point to a close race between Vice President Kamala Harris, the Democratic presidential nominee, and Republican challenger and former President Donald Trump.

A Trump victory could lead to the reinstatement of tariffs, which could disrupt or reverse the current disinflationary trend in the US economy, possibly shortening the deadline for Fed rate cuts.

Instead, some analysts suggest a Harris administration could pursue higher taxes and pressure the Fed to ease monetary policy, particularly if signs of an economic slowdown begin to emerge.

What’s happening next week?

The key event on the US calendar next week will be the release of the FOMC minutes from the September 17-18 meeting, closely followed by the release of September inflation data as measured by the Consumer Price Index (CPI).

Additionally, a series of scheduled speeches from Fed officials are expected to keep investors focused on the potential interest rate path for the rest of the year.

Technicals on the US Dollar Index

After the sharp advance of the US Dollar Index (DXY) in recent days, the main target now appears at the critical 200-day simple moving average (SMA) at 103.73.

Despite the DXY downtrend softening this week, there is still strong support at the year-to-date (YTD) low of 100.15 (September 27). Further bouts of selling pressure could trigger a move to the psychological 100.00 level, with a potential retest of the 2023 low at 99.57 (July 14) occurring on a breach of this level.

On the other hand, the continuation of the ongoing recovery is expected to meet the next hurdle at the provisional 100-day SMA at 103.35, ahead of the pivotal 200-day SMA. A break above this region could open the door to a potential visit to the weekly high of 104.79 (July 30).

Additionally, the Relative Strength Index (RSI) on the daily chart has crossed the 63 level, suggesting that more gains may be in store on the near-term horizon. Meanwhile, the Average Directional Index (ADX) dipped to around 33, signaling some loss of momentum for the current trend.

Non-farm payroll FAQs

Non-farm payrolls (NFP) are part of the US Bureau of Labor Statistics’ monthly jobs report. The Nonfarm Payrolls component specifically measures the change in the number of people employed in the US over the previous month, excluding the agricultural industry.

The nonfarm payrolls figure can influence the Federal Reserve’s decisions, providing a measure of how successfully the Fed is meeting its mandate to promote full employment and 2 percent inflation. A relatively high NFP figure means more people are employed, earning more money and therefore likely spending more. A relatively low Non-Farm Payrolls result, on the one hand, could mean people are struggling to find work. Typically, the Fed will raise interest rates to combat high inflation fueled by low unemployment and cut them to stimulate a stagnant labor market.

Non-farm payrolls generally have a positive correlation with the US dollar. This means that when wage numbers come out higher than expected, the USD tends to rise and vice versa when they are lower. NPFs influence the US dollar by virtue of their impact on inflation, monetary policy expectations and interest rates. A higher NFP usually means the Federal Reserve will be tighter in its monetary policy, supporting the USD.

Non-farm payrolls are generally negatively correlated with the price of gold. This means that a higher than expected wage figure will have a depressing effect on the price of gold and vice versa. Higher NFP generally has a positive effect on the value of the USD, and like most major commodities, gold is priced in US dollars. If the USD gains in value, therefore, fewer dollars are needed to buy an ounce of gold. Also, higher interest rates (typically helped higher NFPs) also diminish the attractiveness of gold as an investment compared to staying in cash, where the money will at least earn interest.

Nonfarm payrolls are only one component of a larger jobs report and can be overshadowed by the other components. Sometimes when NFP comes in higher than forecast but average weekly earnings are lower than expected, the market has ignored the potentially inflationary effect of the headline and interpreted the earnings decline as deflationary. The Participation Rate and Average Weekly Hours components can also influence market reaction, but only in rare cases such as the Great Recession or the Global Financial Crisis.

Fed FAQ

Monetary policy in the US is shaped by the Federal Reserve (Fed). The Fed has two mandates: to ensure price stability and to promote full employment. Its main tool for achieving these objectives is the adjustment of interest rates. When prices rise too quickly and inflation is above the Fed’s 2 percent target, it raises interest rates, raising borrowing costs throughout the economy. This results in a stronger US dollar (USD) as it makes the US a more attractive place for international investors to park their money. When inflation falls below 2% or the unemployment rate is too high, the Fed can lower interest rates to encourage borrowing, which hurts the greenback.

The Federal Reserve (Fed) holds eight policy meetings a year, where the Federal Open Market Committee (FOMC) assesses economic conditions and makes monetary policy decisions. Twelve Fed officials participate in the FOMC—the seven members of the Board of Governors, the president of the Federal Reserve Bank of New York, and four of the remaining eleven regional Reserve Bank presidents, who serve rotating one-year terms. .

In extreme situations, the Federal Reserve can resort to a policy called 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 during crises or when inflation is extremely low. It was the Fed’s weapon of choice during the Great Financial Crisis of 2008. It involves the Fed printing more dollars and using them to buy higher quality bonds from financial institutions. QE usually weakens the US dollar.

Quantitative tightening (QT) is the reverse process of QE, whereby the Federal Reserve stops buying bonds from financial institutions and does not reinvest the principal of bonds it holds at maturity to buy new bonds. It is usually positive for the value of the US dollar.

VaselineOctober 4, 2024

0 7 minutes read