Stefano Rebaudo
(Reuters) – The dollar eased but was near a 5-1/2-month high on Wednesday as Federal Reserve officials confirmed the rate-cut cycle was on hold pending new economic data while assessing the monetary easing outlook for central banks, the G10 banks remained virtually unchanged.
Senior U.S. central bank officials, including Federal Reserve Chairman Jerome Powell, on Tuesday rejected any guidance on when interest rates might be cut, saying instead that monetary policy should be tighter for longer.
Recent data showed the US economy on a different path than the Fed forecast, prompting investors to reduce their bets on future rate cuts. Meanwhile, risks of expanding conflict in the Middle East have increased the short-term appeal of the dollar as a safe-haven asset.
Some analysts said they remain bullish on the US dollar at current levels.
“In any escalation of the Middle East crisis, we expect the US dollar to benefit from safe-haven flows,” said Jane Foley, senior FX strategist at Rabobank, reiterating her EUR/USD target of 1.05.
The US and its allies planned new sanctions against Iran over its unprecedented attack on Israel, seeking to dissuade Israel from a major escalation as its war cabinet was due to meet again on Wednesday to decide on a response.
Bank of America last week revised its call for the Fed’s monetary easing to begin this December or later rather than June, and said the dollar would strengthen further if markets price in the Fed’s cuts this year.
However, “with hedge funds’ net long US dollar positions at their highest post-COVID levels, a stronger US dollar is likely to rely more on real money clients,” said Michalis Rousakis, forex strategist at BofA.
Against a basket of currencies, the dollar was last down 0.2% at 106.12, narrowly missing Tuesday’s five-month peak of 106.51. Over the year, the index grew by 4.8%.
The dollar fell against the euro to $1.0643 on Wednesday, not far from the 5-1/2-month high of $1.06013 it hit on Tuesday.
“With the market still discounting almost two (Fed) cuts this year, there is a risk of a tough reversal (of Fed policy) in the coming weeks,” said Olivier Corbert, strategist at SG Markets. “This could put pressure below 1.05.”
Traders now expect a rate cut of 40 basis points (bps) in 2024, well below 160 bps. easing that they assumed at the beginning of the year.
European Central Bank policymakers on Tuesday continued to advocate for interest rate cuts in June as inflation remains on track to fall to 2% by next year, even if the path for prices remains bumpy.
JENA IS WORRIED
The yen last hovered just below 154.79 to the dollar, its lowest level in 34 years.
Market participants raised the bar for possible intervention by the Bank of Japan (BOJ) to support the Japanese currency, now mentioning the level of 155 compared to the previous 152, even if they believed that the BOJ could intervene at any time.
They noted that the Japanese currency’s latest decline was in line with fundamentals, reflecting the Fed’s pricing policy, and that authorities were analyzing not only the yen’s recent decline but also the factors that were driving those moves.
“We think the potential for the BOJ to intervene to support the yen appears less clear given that the dollar is strengthening amid a relatively more aggressive Fed policy,” said Ivan Berthoud, currency strategist at UBS Investment Bank.
Market participants believe that as long as the yen’s decline is gradual and driven by fundamentals, the likelihood of the Bank of Japan intervention is low.
“Officials’ rhetoric has been more focused on the speed of movement rather than the levels themselves,” said Kieran Williams, head of Asia FX at InTouch Capital Markets.
Japan last intervened in the foreign exchange market in 2022, spending an estimated $60 billion to defend the yen.
Hedge funds made their biggest bets against the yen in 17 years, raising hopes that when the Japanese currency recovers, the rally in short covering could be powerful.
The dollar’s strength has cast a shadow over the foreign exchange market, with emerging markets in Asia struggling to stem the decline of their currencies and the prospect of a rate cut this year in the region quickly evaporating. [EMRG/FRX]
Bank of Korea Governor Ri Chang-yong said the central bank is ready to take measures to calm the market while Indonesia’s central bank continues to intervene in the foreign exchange market ahead of its policy meeting next week.