U.S. Dollar Strength Holds, but Cracks Showing

Dollar Index (DXY) up 1.60% for the month to date

• U.S. Treasury yields continue to surge, helping keep the greenback on strong footing.
• The Fed may not raise rates in November for a variety of reasons, but a December hike still can’t be ruled out.
• It’s difficult to foresee a meaningful U.S. dollar pullback until Fed hike odds breakdown or U.S. Treasury yields relent.

The Federal Reserve kept rates on hold like many other major central banks. Despite that, the U.S. dollar continues to hold onto its gains accumulated thus far in September.

Suggesting that there is still one more rate hike in 2023 and two fewer rate cuts in 2024, the Federal Open Market Committee (FOMC) helped the greenback avoid the pullback that was taking shape this week.

While U.S. dollar strength remains, in large part due to the Bank of England surprising markets with no hike today, the other side of the coin is that U.S. Treasury yields extended to fresh cycle highs. But cracks are starting to show. The two-year note yield reversed all its gains on the day, and the 2s10s spread narrowed by 10-bps to -69-bps. The exit from inversion territory, whenever that may occur, is a strong recession signal, which begets a more meaningful pullback in U.S. Treasury yields down the line.

For now, however, the technical damage has accumulated against the British pound (/6BZ3), the euro (/6EZ3), and the Japanese yen (/6JZ3), the last of which is effectively relying on a surprise from the Bank of Japan (in signaling an exit from its extraordinary easing measures) or an intervention from the Japanese Ministry of Finance for a meaningful turnaround.

/6B British pound technical analysis: daily chart (December 2022 to September 2023)

The British Pound hit a fresh monthly low in trading today, dropping to its lowest level since late-April int eh process. The momentum profile is increasingly bearish in recent days. /6BZ3 remains below the daily 5-, 13-, and 21- exponential moving average (EMA) envelope, which is in bearish sequential order. The moving average convergence divergence (MACD) is trending lower below its signal line. Slow stochastics are holding in oversold territory. As noted last week, “the June low at 1.2314 is initial support, but a break below would open up a path to and through 1.2000 in the coming months.” A deeper setback still can’t be dismissed.

/6E euro technical analysis: daily chart (September 2022 to September 2023)

/6E reached a fresh September low today, dropping to its lowest level since Nov. 30, 2022. The uptrend from the September 2022, November 2022, and May 2023 uptrend remains broken, and a previously observed descending triangle pattern has broken out to the downside. /6EZ3 remains below its daily EMA envelope (which is in bearish sequential order), MACD is trending below its signal line, and Slow Stochastics are holding in oversold territory. Until the downtrend from the July and August swing highs breaks (above 1.0900), /6EZ3 remains mired in a bear market.

/6J Japanese yen technical analysis: daily chart (November 2022 to September 2023)

/6JZ3 is the most interest rate sensitive major currency, and yet, even as U.S. Treasury yields have hit fresh highs, /6JZ3 is the only major FX future in positive territory today. /6JZ3 hasn’t seen significant weakness evolve beyond the November 2022 Yentervention level. This could be due to concerns that the Japanese Ministry of Finance could intervene. Nothing has changed: “among all USD-based currency pairs, /6J remains the most dangerous; shorting near the yearly lows and the Yentervention level is akin to picking up pennies in front of a steamroller.”

Christopher Vecchio, CFA, tastylive’s head of futures and forex, has been trading for nearly 20 years. He has consulted with multinational firms on FX hedging and lectured at Duke Law School on FX derivatives. Vecchio searches for high-convexity opportunities at the crossroads of macroeconomics and global politics. He hosts Futures Power Hour Monday-Friday and Let Me Explain on Tuesdays, and co-hosts Overtime, Monday-Thursday. @cvecchiofx

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