Interest rate differentials driving US dollar strength still

Analysis of the dollar movements against the forex majors across the course of the past month suggests that there is an overriding theme now in the forex market. Interest rate differentiation is key right now. The numbers do not suggest that the prospect of a Federal Reserve rate hike has been fully priced in yet.

majorsLast night we had news that the FOMC continues to sit on its hands. Although this was widely expected, and despite teh slightly hawkish lean in the statement, we are still yet to see a rate hike. That clearly leaves the question of when the hike will be, open to debate (will it be September or December?). However the strength of the dollar in the past month suggests that traders are certainly ready to back the dollar once more as the debate goes on. Some say it is better to travel than to arrive (which could still be true in this case). However, seeing as we are still yet to arrive, there could easily be more room for dollar gains.

Below is a look at the performance of key forex majors of countries/regions such as the Eurozone, Japan and Switzerland, that remain committed to loose monetary policy recently. There is a theme in their moves  against the dollar:

  • EURO is broadly flat on the week, but a one month performance is down 2.4% – Selling rallies apparently remains the correct strategy and a retest of the lows around $1.0820 still seems likely in the coming days.
  • JAPANESE YEN is weaker by 0.7% in a week and down by 1.5% on a one month basis – It is slow going for the breakout but I remain confident of further upside potential in the Dollar/Yen pair.
  • SWISS FRANC has previously traded similarly to the euro, however the weakness in the past month has been remarkable. The one week performance has been the worst of the majors as it has lost 2% of its value against the dollar, whilst the 5.0% decline is joint worst (along with the Aussie) in the past month – The breakout on Dollar/Swiss seems to have the backing of the bulls now and momenutm indicators are in strongly positive configuration. Any reteate into the 0.9550/0.9650 support band is a chance to buy.

However, now take a look at the performance of the commodity currencies. These are the economies that have been actively loosening monetary policy in recent months, at a time when the US is close to a rate hike. All of these majors have dropped to multi-year lows gainst the US dollar and show little sign of any recovery. The other factor at play herre has been the weakness of the key commodity prices (oil, gold and copper) in recent weeks.

  • AUSSIE DOLLAR is down by almost 1% this week but across the past month the Aussie has lost 5% of its value – There seems to be little sign of any real respite for the Aussie and technical analysis suggests using rallies as a chance to sell remains viable.
  • NEW ZEALAND DOLLAR has performed slightly better this week and is actually up by 0.2% (after teh RBNZ appeared to be slightly less dovish than had been anticipated. However in the past month the Kiwi is down 3.4% against the US dollar – Despite the performance of the past week and a broken downtrend channel it is still difficult to see rallies on the Kiwi going far before the selling pressure drags it lower again.
  • CANADIAN DOLLAR has lost 0.5% in a week, whilst is also offside by 4.6% in the past month as the BoC has cut interest rates – The Loonie managed a minor recovery this week (a dead cat bounce) but this seems to once more have been an opportunity to sell it once more, as Dollar/Canadian found support around the breakout level and is pushing higher once more.

The big exception to the rule is STERLING. Why is this? Because the UK is on a similar path towards tightening as the US is (albeit maybe two or three months behind). Sterling is trading up against the dollar by 0.7% this week, and is only 0.7% weaker in the past month. It would appear that sterling appears to be able to go toe to toe with the dollar still. Economic data will remain key for volatility but both central banks appear on track for their tightening cycles. As Yellen has been steering towards a 2015 rate hike in the US in recent weeks, Bank of England’s Mark Carney has been suggesting that the time for a decision in the UK may come around the turn of the year.

If this rhetoric continues, without a drastic deterioration in respective economic data then this should ensure that Cable remains choppy with a lack of decisive trend in the coming months.

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