The Dollar Index Has Reached a 7 Week High Due to Higher For Longer US Interest Rates
On Thursday, the dollar index surged to its highest level in over seven weeks, a day after minutes from the Federal Reserve's most recent policy meeting reinforced, but did not add to, investors' belief that the central bank will hike interest rates further.
The index, which compares the US dollar to six major currencies, reached 104.68, its highest level since Jan. 6, in late morning Europe, before trading just below that level throughout the day.
The euro, the index's largest component, briefly reached $1.0586, its lowest since early January, mainly unmoved by eurozone inflation data, which came in a tad higher in January than previously projected, suggesting that price rise has already passed its peak.
But, underlying pricing pressures show little signs of abating. The dollar was trading at 134.94 Japanese yen, barely below its two-month high of 135.2 sets on Tuesday.
The dollar index rose 0.36% on Wednesday after minutes from the Federal Open Market Committee (FOMC) meeting on January 31-February 1 revealed that nearly all policymakers preferred a slower pace of interest rate hikes, but they also stated that containing unacceptably high inflation would be the "key factor" in determining how much further rates need to rise.
The effect of the minutes was significantly diminished because the meeting came before several indicators reported in February, most notably jobs data, that showed the US economy is functioning well, giving the Fed more leeway to hike rates to reduce inflation.
Traders of futures contracts linked to the Federal Reserve's policy rate were overwhelmingly convinced that the central bank will continue to raise rates by a quarter point at its next three meetings.
Because of the recent increase in these expectations, the dollar index has steadily risen from a low of 100.8 in early February. But, it is still significantly below its 20-year high of 114.78, set last October at a period of concern about the global economy and when the Federal Reserve was hiking rates more quickly than other central banks around the world.
"I believe that following the 'popping' of the dollar bubble, we're in a new phase for the dollar that we call the 'chop,' where the market reassesses some of the reasons why it was so negative on the dollar - there was complacency about the Fed and the market was pricing in too many cuts for this year - which is now being washed out," said Paul Mackel, global head of FX research at HSBC.
"But, once that is complete, and we see further indicators that the global economy is improving, we'll enter the following stage for the wider dollar: the flip."
Sterling was a tad lower at $1.2029 per dollar, the Swiss franc was a tad lower at 0.9318 per dollar, and the Australian dollar was a rare gainer in the G10 pack, up 0.4% to $0.6833 after falling to a near seven-week bottom of $0.6795 on Wednesday.
According to Simon Harvey, head of FX analysis at Monex Europe, the uncommon respite in volatility underscores markets' confidence in current central bank policy expectations.
"As a result, the rates dynamic is temporarily taking a back seat until the next batch of data and central bank commentary arrives."
"Till then, there will be more idiosyncratic tales, such as Ueda speaking in front of Japan's parliament tomorrow, and other little bits of data, such as individual consumption numbers from the US tomorrow, will have an outsized influence."
Incoming Bank of Japan Governor Kazuo Ueda will appear in parliament on Friday and next Monday, with investors searching for hints on how quickly the BOJ's bond yield control program would be phased out.