Original article by Chris Turner, Head of FX Strategy at ING
Source: https://think.ing.com/articles/the-dollars-handbrake-turn/
Title: The Dollar’s Sudden Shift: A Deep Dive into Recent Currency Market Moves
In recent weeks, the foreign exchange (FX) market has witnessed an abrupt change in the direction of the US dollar. After months of resilience and upward momentum, the greenback has entered a period of notable weakness in response to key shifts in US economic data and Federal Reserve policy expectations. A comprehensive assessment of current market dynamics reveals multiple layers behind this dollar retreat—ranging from inflation trends, rate policy assumptions, and geopolitical risk appetite, to currency-specific developments in major economies.
This article provides a detailed breakdown of recent developments in the USD, key drivers behind its move, and implications for currencies including the euro, Japanese yen, British pound, and emerging market (EM) currencies.
US Dollar Reversal: A Sudden Pullback
– Over the last couple of weeks, the dollar has undergone a marked decline against most major and emerging currencies.
– This “handbrake turn,” to borrow terminology from ING’s Chris Turner, has caught many investors by surprise due to the prolonged period of dollar strength throughout early 2024.
– The sharp change has been attributed to a combination of macroeconomic data and broad shifts in market sentiment around future US monetary policy.
Key Trigger: Softer US Inflation Data
– Recent US inflation data has come in below expectations, easing fears of sticky price growth and diminishing the likelihood of further tightening by the Federal Reserve.
– Most notably, core Personal Consumption Expenditures (PCE)—the Fed’s preferred inflation measure—showed signs of cooling.
– This data has led investors to reassess their expectations of future rate hikes and has brought Fed rate cuts back on the table for the second half of 2024.
As a result:
– US Treasury yields have declined across the curve, exerting additional downward pressure on the dollar.
– Markets have now priced in two Fed rate cuts by the end of 2024, where previously cuts were not expected until 2025.
Dollar Reaction Across Currency Pairs
1. EUR/USD: Beneficiary of Dollar Weakness
– The euro has been one of the primary beneficiaries of the dollar’s pullback.
– After spending much of Q1 2024 below 1.08, EUR/USD has climbed above 1.0850 and is now approaching levels previously considered out of reach in the medium term.
– Interest rate differentials have narrowed in the eurozone’s favor amid signs that the European Central Bank (ECB) may proceed cautiously even after starting its rate cut cycle.
– The expected ECB rate cut in June is largely priced in, with markets not anticipating an aggressive easing path.
2. JPY/USD: Relief After Prolonged Weakness
– The Japanese yen has staged a moderate recovery after months of depreciation that saw USD/JPY trade above 155.
– Expectations of a less hawkish Fed have provided the BoJ with some breathing room.
– Nonetheless, the BoJ remains cautious, having only recently exited its ultra-loose monetary policy and embarking on gradual normalization.
– A weaker dollar helps the central bank avoid the need for direct FX intervention, although volatility remains high.
3. GBP/USD: Sterling Gains On Rate Divergence
– The British pound has maintained strength due to a combination of persistent inflation and a cautiously firm tone from the Bank of England (BoE).
– The UK’s inflation proves more stubborn than in the US or eurozone, suggesting the BoE may delay rate cuts relative to its peers.
– This has supported GBP/USD, which recently moved back above 1.27 after briefly declining toward 1.23 earlier in the year.
– A decisive break above 1.28 could further boost bullish sentiment, especially if UK economic data remains robust.
4. Emerging
Read more on EUR/USD trading.