strong US dollar

The U.S. Dollar is Strong Because the Euro, Pound and Yen are Weak

By:Christopher Vecchio - CFA

The dollar index is up +1.63% month-to-date. Why? FX markets are all about relativity.

  • U.S. Treasury yields are holding steady and oil prices are rising, helping support the U.S. dollar.
  • Fed rate hike odds have pulled back meaningfully, but the lack of cuts being discounted gives the buck an advantage relative to its peers.
  • More weakness may be forthcoming yet in the British pound and the euro.

Fig. 1: Year-to-date price percent change chart for /6B, /6E, /6J
Fig. 1: Year-to-date price percent change chart for /6B, /6E, /6J

The European Central Bank threw in the towel on its rate hike cycle. The Bank of England may be at a tipping point as well. And the Bank of Japan is waiting until at least the end of the year to even considering changing its ultra-loose monetary policy. All of that is good news for the U.S. dollar.

While the Federal Reserve is unlikely to raise rates when it meets next week—Fed funds futures and SOFR spreads are pricing in less than a 5% chance of a 25-basis-point rate hike–that doesn’t necessarily hurt the U.S. dollar. FX markets are all about relativity, and relatively speaking, the Fed appears more likely than its counterparts to maintain interest rates at a higher level for longer, plain and simple.

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

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

The British pound hit a fresh monthly low in trading on Friday. In line with commentary last month that “it remains the case that a drop below 1.2600 by the end of August would be a strong confirmation signal that /6B has topped, potentially for the remainder for the year. /6B fell as low as 1.2550, vindicating the notion that the yearly highs may be in place.” 

Now at its lowest level since early-June, the technical path ahead remains daunting for /6B. Momentum indicators are bearish across the board–from the daily 5-, 13-, and 21-exponential moving average (EMA) envelope to moving average convergence divergence (MACD) and stochastics. The June low at 1.2314 is initial support, but a break below would open a path to and through 1.2000 in the coming months.

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

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

/6E reached a fresh September low yesterday, finding support near the May low at 1.0647. Already having broken the uptrend from the September 2022, November 2022, and May 2023 uptrend, /6E could be consolidating into a descending triangle pattern that portends a deeper setback in the coming months. /6E 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. If the largest component of the DXY Index remains on this kind of feeble footing, it’s difficult to suggest that the trend of U.S. dollar strength that emerged mid-summer is nearing an end point as autumn arrives.

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

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

/6J remains the most interest rate sensitive major currency, and with U.S. Treasury yields holding near their highs, the path forward for the Japanese yen remains difficult. That said, /6J hasn’t seen significant weakness evolve beyond the November 2022 "yentervention" level. This is probably because of concerns that the Japanese Ministry of Finance could intervene. Among all U.S.-dollar-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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