Forex
Fed’s drag on the dollar may soon peak: Barclays
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.
Investing.com – The US dollar has rallied strongly since the US Presidential election, from an already high level, and Bank of America Securities sees the currency now priced to perfection.
In real effective terms, BoA estimated that the dollar ended 2024 at a 55-year high, following the longest uptrend in recent decades, which started in mid-2011.
“The USD has also reached extreme levels in nominal terms. Using the BIS NEER broad index (nominal effective exchange rate), the USD is the strongest it has been in the last 30 years, which is when the time series started,” said analysts at BoA Securities, in a note dated Jan. 8.
The dollar appears overvalued by 18.5%, the most in the last 30 years except when it was overvalued by 19% during the energy shocks from the war in Ukraine in 2022, the bank said.
Its overvaluation increased by about 6.4% since the end of Q3 last year, to a large extent because of the US election. By comparison, it was overvalued only by 9.4% at the end of 2016, after Trump won his first US election.
Looking at G10 equilibrium estimates, the USD clearly stands out as the most overvalued – followed by CHF, with JPY and the Scandies being the most undervalued.
“We expect the USD to remain strong in the short term on the back of US inflationary policies, and particularly tariffs, but to weaken later in the year, as these policies take a toll on the US economy while the rest of the world responds. Policy uncertainty makes our baseline subject to substantial risks,” said BoA Securities.
Investing.com – The US dollar rose Wednesday, benefiting from rising bond yields after the release of healthy US economic data, while weak German industrial orders weighed on the euro.
At 04:35 ET (09:35 GMT), the Dollar Index, which tracks the greenback against a basket of six other currencies, traded 0.3% higher to 108.690.
Dollar gains as Treasury yields soar
The dollar has continued to push ahead Wednesday, following on from the prior session’s positive tone after data showed US unexpectedly rose in November, layoffs were low, while services sector activity accelerated in December and a measure of prices paid for inputs hit a two-year high.
This resulted in 10-year Treasury yields climbing to an eight-month high, while the benchmark 30-year yield came close to the 5% level.
“Yesterday’s US data releases were hawkish for the Fed, and the implied probability of a March rate cut has now dropped below 40%,” said analysts at ING, in a note.
“The most remarkable print was the ISM prices paid subcomponent, which spiked to the highest level since January 2023. If a generally resilient economy was already accounted for when the Fed met in December, a resurgence in inflation concerns could drive an even further hawkish tuning in the policy message.”
The Federal Reserve cut the number of rate cuts it sees this year to two at its December meeting, but traders are now only pricing in around 37 bps of easing through this year, according to LSEG data.
There is more data to digest Wednesday, in the form of the monthly and weekly , ahead of Friday’s release of the closely watched US for further clarity on the health of the world’s largest economy.
German economic weakness weighs on euro
In Europe, fell 0.2% to 1.0326, adding to the losses of around 0.5% overnight after the release of more disappointing economic data from the region’s largest economy – Germany.
fell 5.4% in November, sapped by a decline in large orders, while the country’s fell 0.6%, bursting hopes for a boost from pre-Christmas promotions like Black Friday and Cyber Monday.
Investors are currently looking for the to ease interest rates by around 100 basis points in the first half of 2025.
“There is only a speech by French central bank governor Villeroy to watch in the eurozone calendar today. EUR/USD may find decent support at 1.0300 for now,” said ING.
traded 0.2% lower to 1.2447, with little in the way of economic data due for release Wednesday, and only a speech from Bank of England Deputy Governor Sam Woods to digest.
The held interest rates unchanged last month, and is expected to proceed cautiously with further rate cuts this year with inflation still above target.
Yuan sentiment remains weak
In Asia, rose 0.1% to 7.3511, with the Chinese currency hitting its weakest level in 17 years earlier in the week.
Sentiment remains weak surrounding China ahead of President-elect Donald Trump’s inauguration on Jan. 20, with Trump having vowed to impose steep trade tariffs on China.
gained 0.1% to 158.19, after recovering marginally from its weakest level in nearly six months.
The yen stemmed its recent losses after government officials offered a verbal warning on potential currency market intervention, which saw traders adopt more caution in shorting the Japanese currency.
By Tom Westbrook and Greta Rosen Fondahn
SINGAPORE/GDANSK (Reuters) -The dollar rose for a second day on Wednesday on higher U.S. bond yields, sending other major currencies to multi-month lows, with a report that Donald Trump was mulling emergency measures to allow for a new tariff program also lending support.
The already-firm dollar climbed higher on Wednesday after CNN reported that President-elect Trump is considering declaring a national economic emergency as legal justification for a large swath of universal tariffs on allies and adversaries.
The was last up 0.5% at 109.24, not far from the two-year peak of 109.58 it hit last week.
Its gains were broad-based, with the euro down 0.43% at $1.0293 and Britain’s pound under particular pressure, down 1.09% at $1.2342.
Data on Tuesday showed U.S. job openings unexpectedly rose in November and layoffs were low, while a separate survey showed U.S. services sector activity accelerated in December and a measure of input prices hit a two-year high – a possible inflation warning.
Bond markets reacted by sending 10-year Treasury yields up more than eight basis points on Tuesday, with the yield climbing to 4.728% on Wednesday.
“We’re getting very strong U.S. numbers… which has rates going up,” said Bart Wakabayashi, Tokyo branch manager at State Street (NYSE:), pushing expectations of Fed rate cuts out to the northern summer or beyond.
“There’s even the discussion about, will they cut, or may they even hike? The narrative has changed quite significantly.”
Markets are now pricing in just 36 basis points of easing from the Fed this year, with a first cut in July.
U.S. private payrolls data due later in the session will be eyed for further clues on the likely path of U.S. rates.
Traders are jittery ahead of key U.S. labour data on Friday and the inauguration of Donald Trump on Jan. 20, with his second U.S. presidency expected to begin with a flurry of policy announcements and executive orders.
The move in the pound drew particular attention, as it came alongside a sharp sell-off in British stocks and government bonds. The 10-year gilt yield is at its highest since 2008. [GB/]
Higher yields in general are more likely to lead to a stronger currency, but not in this case.
“With a non-data driven rise in yields that is not driven by any positive news – and the trigger seems to be inflation concern in the U.S., and Treasuries are selling off – the correlation inverts,” said Francesco Pesole, currency analyst at ING.
“That doesn’t happen for every currency, but the pound remains more sensitive than most other currencies to a rise in yields, likely because there’s still this lack of confidence in the sustainability of budget measures.”
Markets did not welcome the budget from Britain’s new Labour government late last year.
Elsewhere, the yen sagged close to the 160 per dollar level that drew intervention last year, touching 158.55, its weakest on the dollar for nearly six months.
Japan’s consumer sentiment deteriorated in December, a government survey showed, casting doubt on the central bank’s view that solid household spending will underpin the economy and justify a rise in interest rates.
hit 7.3322 per dollar, the lowest level since September 2023.
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