At one point after the US CPI report this month, the dollar looked like it was bound for a major breakdown. But as USD/JPY found its footing for a rebound, so did the dollar and that correlation was also highlighted at the time already here. The dollar is still set to end the month as the weakest among the major currencies but it really could've been a lot worse.
As the month draws to a close, dollar buyers will be happy with the fact that they avoided a much uglier scene - especially against the euro and pound. Against the yen itself, the BOJ played a helping hand in USD/JPY on its latest jump since Friday. As such, the pair is "only" down 1.3% on the month so far.
So, what's next moving forward for the dollar?
It's going to be all about the data, specifically big data as highlighted here. The first of which is the US non-farm payrolls and labour market report coming up at the end of this week.
In the bigger picture though, what matters will be the Fed's take on inflation and if we have seen a peak in interest rates already. There is certainly a suggestion that policymakers are looking to adopt that view, but it isn't a given just yet.
For now at least, market pricing is definitely siding with that and so the dollar will go according to the flow in that regard.
But all else being equal, confirmation of a Fed pivot will not bode well for the dollar's prospects. However, the saving grace for the greenback is that the US economy is continuing to surprise with stronger data while other key economies look to be flagging.
Europe is seeing credit conditions tighten significantly and dark clouds are starting to hover over the economy ahead of Q3 and Q4. Meanwhile, in the UK you have the cost-of-living crisis still to contend with alongside risks of stagflation building.
And when you consider rate differentials, the dollar is still in a good spot as well with many major central bank also looking to pivot alongside the Fed.
The RBA, who is meeting tomorrow, may not hike again and the ECB could be on a similar path as well. And in the case of the BOJ, sure they are letting yields push higher, but they're not exactly capitalising on higher inflation to leave behind their ultra loose monetary policy - something which they might regret.
So, the dollar definitely still has a couple of redeeming qualities. So, unless we are due a hard landing in the US (which implies the Fed will have to cut rates sooner rather than later), the dollar might still find some backing or at least reason to not depreciate too rapidly.
Fed funds futures are showing that traders are anticipating the first rate cut to either be in March or May next year. If that pricing is wrong and the Fed is going to hold rates higher for longer while waiting on inflation to fall further (since the economy can take it), that is one tailwind that markets should really consider for the dollar.
In some sense, it is similar to this story right here. At the time, traders were seeing the Fed funds rate fall to 4.30% by December. For some context, that pricing is now seen at 5.37%.
