Fed Chairman, Jerome Powell in his speech yesterday was overall perceived as neutral. Powell recognised that a disinflationary process is underway, but also stated that interest rates may have to be pushed higher, if jobs data continues to show positive surprises. This may suggest the USD pullback will be contained.
New York Fed President William said, that the December rate forecast still seems a very reasonable view of what needs to be done this year to balance supply and demand, and bring down inflation. A further increase of 24bps seems the right size. But the pace will still depend on incoming data. The Fed will monitor the data to determine the path of rate hikes, perhaps service prices remain high and if that happens, higher rates are needed.
Meanwhile Wiiliam’s colleague, Fed Governor Lisa Cook said, that the incoming data depicts a historically strong labour market, with inflation still high. But the Fed is starting to see some improvement in inflation data. She expects inflation to continue to fall this year and next, although progress may be uneven. While it is appropriate to move in smaller steps as the Fed assesses the cumulative impact of its rate hikes so far, it will stay the course until inflation is under control. Overall, the path of policy rates will depend on how quickly inflation moves towards the 2% goal.
Meanwhile, the USDindex started to chip away at the decline with small gains. The index recorded a more than 2-decade high of 114.71 in September 2022 and has since retreated more than 50% of the total gains, approaching the psychological level of 100.00 by recording a temporary low of 100.65.
Notably, the index’s poor performance in January 2023 was a continuation of the previous year. In January, the price opened at 103.43 and fell -1.5% by the close of the month. By February, however, the index had climbed back to January’s opening price, as the US economy added an astounding 517k jobs in January, with the unemployment rate hitting a 2-year low of 3.4%. Moreover, right after the jobs data, the ISM non-manufacturing PMI rebounded strongly back into expansionary territory, adding to hopes that the US economy may finally avoid recession.
Does this signal that the dollar has come back? Since the dollar has fallen much more sharply than US Treasury yields as a result of the Fed’s pivot bet, the currency may have room to cover when things head in the opposite direction. This could support the case for some further recovery in the near term. Although it continues to gain strength, it still sounds too early for a long-term recovery. After all, Fed Chair Powell only reinforced his comments on deflation on Wednesday, which made market participants reaffirm their support for a reduced number of rate hikes.
The next data to watch is next week’s inflation data which is expected to show that both the headline and core rates continue to decline, due to falling crude oil prices. This could revive speculation about a peak in lower US interest rates as well as more rate cuts for later this year. US Treasury yields may come under renewed pressure and thus the dollar may weaken again.
From a technical standpoint, the USDIndex rallied after posting a false break below the 101.24 key support zone. The recent strength could be argued to be a sell position liquidation action to seek rebalance at the January opening price, as traders will likely wait for the results of next week’s CPI data release. The short-term 100.65 rebound is seen testing the 52-day exponential moving average (orange line) after breaking 102.43 minor resistance. Further upside movement could test the 200-day exponential moving average (red line) which is below the January high of 105.39 which is a key level. A move above this level signals the confirmation of the 100.65 rebound has taken effect and the USDIndex could resume its medium-term uptrend to test higher price levels.
As long as trading is done below 105.39, it will bring a mixed outlook and consolidation will likely prevail. However, a move below 100.65 will lead the index to the psychological level of 100.00 while confirming, that the retracement is not yet complete. RSI is at 55 levels and AO Divergence needs confirmation to cross the centre line.