US Dollar (DXY): Boosted by Safe-Haven Demand, Rate Cut Revisions

Highlights

• U.S. dollar strengthens, reaching highest level since March.
• Euro and pound decline, facing downward pressure from economic factors.
• Safe-haven demand, reduced rate cut expectations support the U.S. dollar.

Overview

The U.S. dollar index, which measures the currency against six major peers, saw a notable increase, reaching its highest level since March 17 at 104.16, representing a 0.3% rise. In contrast, the Euro declined by approximately 0.2%, hitting a two-month low at $1.0715. Similarly, the British pound weakened by 0.1%, briefly touching its lowest point since April 3 at $1.2332. The Yen also experienced a decline against the dollar, with the latter reaching its strongest level since November 30 at 139.705.

Fundamentals

Several fundamental factors influenced the movements in currency pairs. The euro faced downward pressure due to Germany, the largest economy in Europe, being confirmed to be in a recession. Meanwhile, the U.S. dollar benefited from safe-haven demand as concerns regarding a potential U.S. default increased.

Additionally, the U.S. currency was supported by reduced expectations for Federal Reserve rate cuts. Traders revised their predictions, now anticipating only a quarter-point rate cut in December, down from previous estimates of up to 75 basis points. Odds for another quarter-point hike in June also increased to approximately 1-in-3 following hawkish comments from Fed officials and the Fed’s minutes indicating upside risks to inflation.

Short-Term Forecast

Currently, the major drivers in the market are global risk aversion and the repricing along the U.S. forward curve. These factors are keeping the U.S. dollar strong and are expected to prevent a complete reversal of its current strength, even if a debt ceiling deal is reached and risk appetite resumes.

It is worth noting that Fitch recently placed the United States’ “AAA” debt ratings on negative watch, potentially leading to a downgrade if lawmakers fail to raise the $31.4 trillion debt ceiling. With only a week remaining before the June 1 “X-date,” when the Treasury might struggle to meet all its financial obligations, the demand for safe-haven assets, including the U.S. dollar, is likely to persist.

Furthermore, investors are closely monitoring the Federal Reserve’s interest rate policy, as officials have expressed differing views on whether more rate increases are necessary or if a pause is warranted. Overall, these factors suggest that the U.S. dollar is likely to maintain its strength in the short term.

In terms of economic indicators, the number of Americans filing new claims for unemployment benefits increased moderately, while the previous week’s data was significantly revised lower, indicating ongoing strength in the labor market.

Additionally, the Commerce Department confirmed that economic growth slowed in the first quarter, primarily due to businesses reducing inventories. This drawdown in inventories likely resulted from robust consumer spending and precautionary stock reductions in anticipation of a potential recession.

In conclusion, recent market developments have seen the U.S. dollar strengthening against major peers, driven by factors such as safe-haven demand, reduced expectations for Federal Reserve rate cuts, and concerns regarding the U.S. debt ceiling. These influences are expected to support the U.S. dollar in the short term, despite potential risks.

Technical Analysis

The main trend is up. The index has extended its current rally to 104.160 on Thursday after overtaking 103.631 (R1) earlier in the week. This level is new support.

We’re now looking for the rally to possibly extend into 104.406 (R2) over the near-term.

A sustained move under 103.631 (R1) will signal the return of sellers. If this creates enough downside momentum then we could see a retest of 102.405 (S1).  That’s the longer-term support.

For a look at all of today’s economic events, check out our economic calendar.