By Vidya Ranganathan and Samuel Indyk

LONDON (Reuters) -The dollar was lower on Monday while the yen hit its highest level in more than a year, as market participants increasingly expected an oversized rate cut by the Federal Reserve later this week.

The dollar traded at 140.01 yen at 1140 GMT, after falling to as low as 139.58 yen in the session.

This represented a further drop from the 140.285 end-December low it struck on Friday to levels last seen in July 2023.

The Fed’s Sept. 17-18 meeting is the highlight of a busy week that also has the Bank of England and Bank of Japan announcing policy decisions on Thursday and Friday, respectively.

Fed speakers and data releases over the past month have had markets shifting the odds around the size of this week’s rate cut, debating whether the Fed will head off weakness in the labour market with aggressive cuts or take a slower wait-and-see approach.

Futures markets were fully pricing a quarter-point cut from the Fed on Wednesday, with around a 60% chance they opt for a larger 50 basis point move. Last week, the chances of a larger move stood at about 15%.

“It’s all about the Fed and the question about whether it will be a big 50 basis point cut or a smaller 25 basis one,” said Niels Christensen, chief analyst at Nordea. “That’s why the dollar is softer across the board.”

The , which measures the currency against six peers, was down 0.3% to 100.69.

Treasury yields have been falling in the run-up to the highly anticipated Fed meeting, particularly as odds stack up for the Fed to get aggressive with a half-point rate cut.

Benchmark 10-year yields are down 30 basis points in about two weeks. Two-year yields, more closely linked to monetary policy expectations, were around 3.55% and down from roughly 3.94% two weeks ago.

Selling the dollar for yen has been the cleanest trade for investors looking to play the drop in Treasury yields, said Chris Weston, head of research at Australian online broker Pepperstone.

“While speculators are short and riding this lower, this trend is clearly one to align with,” he said.

Investors are also looking to the Bank of Japan’s interest rate decision on Friday, when it is expected to keep its short-term policy rate target steady at 0.25%, having raised rates twice already this year.

BOJ board members have indicated they are keen to see rates higher, and the narrowing gap between rates in Japan and other major currencies has spurred the yen higher and caused billions of dollars worth of yen-funded carry trades to be unwound.

“We are expecting higher rates in Japan and lower rates in the U.S., so the interest rate differential is favouring a stronger yen against the dollar,” Nordea’s Christensen said.

Sterling rose 0.6% to $1.3199. The euro was up 0.4% at $1.1120.

The European Central Bank cut interest rates by 25 bps last week, but ECB President Christine Lagarde dampened expectations for another reduction in borrowing costs next month.

The ECB should almost certainly wait until December before cutting interest rates again to be certain it is not making a policy mistake in easing too quickly, ECB Governing Council member Peter Kazimir said on Monday.

The Bank of England is expected to hold its key interest rate at 5% on Thursday, after kicking off its easing with a 25-bp reduction in August. Futures markets were pricing in around a 38% chance of a quarter-point rate cut on Thursday, versus a 20% chance on Friday.

Bank of Canada Governor Tiff Macklem meanwhile opened the door to stepping up the pace of interest rate cuts, the Financial Times reported on Sunday. The BoC, after keeping its key policy rate at 5%, a more than two-decade high, for a year, has trimmed it by a quarter point three times in a row since June.

The U.S. dollar was little changed against its Canadian counterpart at C$1.3581.

Investing.com – The U.S. dollar fell Monday, while the euro and sterling gained, ahead of the expected start of a rate-cutting cycle by the Federal Reserve later this week.

At 04:35 ET (08:35 GMT), the Dollar Index, which tracks the greenback against a basket of six other currencies, traded 0.4% lower to 100.357.

Large Fed cut coming? 

The concludes its latest policy-setting meeting on Wednesday, and is widely expected to start cutting interest rates from the 5.25%-5.5% range that has been in place for the last 14 months.

A reduction in rates has been widely flagged by Fed officials, with the U.S. falling last month to its lowest level since February 2021. 

However, there remains a degree of uncertainty over the size of the cut, and the greenback fell sharply on Friday after media reports once again fueled speculation the Fed could deliver a hefty 50-basis-point interest rate cut.

Fed fund futures showed traders are pricing in a 59% chance of a 50-basis point cut at the September meeting, according to CME FedWatch. 

U.S. Treasury yields have retreated again Monday in anticipation of a cut, with benchmark 10-year yields down 30 basis points in about two weeks.

The Fed’s rate decision will be followed by a post-meeting press conference during which Chairman Jerome Powell could provide hints about the further outlook for rates and the economy. 

Euro, sterling soar 

In Europe, traded 0.4% higher to 1.1115, with the single currency in demand despite the European Central Bank cutting interest rates by 25 bps last week.

ECB President Christine Lagarde dampened expectations for another reduction in borrowing costs next month, stating the rate path was not predetermined and that the central bank would decide rates meeting by meeting, with no pre-commitments.

ECB chief economist and Vice President speak at events on Monday.

climbed 0.4% to 1.3173, ahead of the latest policy-setting meeting on Thursday.

The U.K. central bank is expected to hold its key interest rate at 5%, after kicking off its easing with a 25-bp reduction in August.

“Sterling continues to trade on the strong side. Dollar softness is the dominant theme and we have yet to have much bearish sterling news at all,” said analysts at ING, in a note.

Yen soars ahead of BOJ meeting

The yen rose 0.8% against the dollar to 139.76, firming sharply to an over eight-month high, with a meeting on tap later this week.

The Bank of Japan’s interest rate decision on Friday is expected to result in the short-term policy rate target remaining steady at 0.25%.

That said, BOJ board members have indicated they are keen to see rates higher, which would likely see the unwinding of more yen-funded carry trades.

traded largely unchanged at 7.0930, with regional trading volumes muted on account of market holidays in Japan, China, and South Korea.

Investing.com — As the U.S. Federal Reserve approaches a key turning point in its tightening cycle, the drag on the may soon reach its peak. 

Analysts at Barclays suggest that, while further weakness in the dollar is possible, the worst of its depreciation is likely behind us. 

The evolving outlook for U.S. monetary policy, coupled with global economic conditions, points to a more stable dollar in the months ahead, even as the Fed’s rate-cutting cycle begins. 

Over the past several months, market participants have been increasingly pricing in the likelihood of earlier and faster rate cuts by the Fed. These expectations have been driven by the perception of a slowing U.S. economy and the Fed’s dovish shifts. 

Real terminal rates, which reflect where the market expects the Fed’s tightening cycle to end, have dropped, from nearly 200 basis points earlier in the summer to under 50 basis points in recent weeks.

Despite this downward shift in rate expectations, Barclays analysts believe that most of the dollar’s depreciation has already occurred. 

The , which tracks the dollar against a basket of major currencies, has seen a decline since mid-2023. However, the pace of further depreciation is expected to slow as the Fed’s monetary tightening cycle approaches its end.

“That said, the bulk of dollar weakness tends to occur ahead of the Fed easing cycles, and the move has already been chunky by historical standards,” the analysts said.

The dollar typically bottoms shortly after the first cut as the market begins to reassess the economic outlook. This pattern is playing out again, with the market already pricing in future cuts and causing the dollar to weaken accordingly​.

Yet, as the rate-cutting cycle progresses, the market often corrects its expectations for the depth of the cuts. If the U.S. economy avoids a severe recession, the Fed may cut rates more cautiously than anticipated, which could lead to a stabilization or even a rebound in the dollar. 

In milder economic slowdowns, the dollar tends to recover once the market realizes the Fed is not cutting as aggressively as feared.

Barclays underscores that several factors are likely to limit further dollar depreciation. One consideration is the possibility of a U.S. recession. 

Should the economy tip into recession, the dollar may strengthen, as investors typically seek the safety of U.S. assets during times of global uncertainty. 

In this risk-averse environment, the dollar’s safe-haven status could once again come into play, especially against emerging market currencies.

Additionally, geopolitical factors, including ongoing tensions in Europe and China, could provide support for the dollar.

Barclays points out that risks related to U.S.-China trade relations and concerns over European political stability could keep the dollar from weakening further. 

The upcoming U.S. presidential election also raises the possibility of shifts in trade policy, which could introduce new volatility into global markets, indirectly supporting the dollar​.

China’s economic slowdown presents another key factor. As China’s growth continues to falter, driven by a declining credit impulse and weakening consumption, the outlook for the Chinese remains bleak. 

A weaker yuan could lend additional support to the dollar, particularly against Asian and emerging market currencies. Barclays notes that as China’s credit impulse weakens, it tends to correlate with a stronger dollar.

Barclays forecasts some additional USD depreciation in the near term, as the market continues to price in Fed rate cuts. 

However, they expect that the extent of further weakness will be modest, with the bulk of the dollar’s decline already behind us.

 As the Fed’s rate-cutting cycle progresses, the dollar may begin to recover, particularly if economic data points to a milder-than-expected downturn.

“Our new forecasts predict some further USD depreciation into Q4 24, but recovery thereafter,” the analysts said.

This recovery could be driven by a recalibration of market expectations regarding the Fed’s rate cuts, alongside improved global risk sentiment. 

Barclays suggests that while bouts of volatility are still possible, the dollar’s broad downward trend may be nearing its end.