Dollar Exchange Rate Forecast: USD to Head Higher vs Euro and Pound Sterling

Gains against the euro (EUR) and British pound (GBP) and other key majors in both short- and long-term timeframes remain possible.

The return to form for the USD chimes with predictions made in the opening months of 2014 that suggested this would be the year of the dollar.

After a soft patch owing to weather-related economic underperformance in the United States we could finally be seeing the start of the USD rally. For reference, we see the following rates at the time of writing:

• The pound dollar exchange rate (GBP/USD) is 0.15 pct higher at 1.6812.
• The euro dollar exchange rate (EUR/USD) is 0.13 pct lower at 1.3368. 

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Dollar comes off highs, but momentum suggests more gains ahead

The dollar was off its highs as investors put U.S. optimism on a shelf and took up shelter in safe currencies like the yen and Swiss franc.

"The main negative for the buck was the plunge in the yield on the U.S. 10- year note to south of 2.40 percent, a 14-month low," says a note to clients by currency analyst Joe Manimbo at Western Union.

Western Union are however of the opinion that downside risk for the US dollar should prove relatively mild given the economy’s better performance which has a Fed rate hike more firmly on the table for next year.

U.S. productivity topped expectations with a 2.5 percent annualized rise in Q2, though the 0.6 percent increase in labour costs was below forecasts.

Euro under pressure

The euro is meanwhile continuing to struggle in the low inflation, low growth environment impacting the Eurozone economy at present.

However, take note of the relief rally we are seeing that coincides with the announcement of US airstrikes in Iraq.

Moves higher in EUR are a reflection of how it’s been leveraged lately to fund risky carry trade bets.

"With markets taking fright, investors have unwound bets on higher yielders like the Aussie and kiwi that were funded in the lower yielding single currency. But any pop in the euro is likely to soon give way to another bout of weaknes," says Manimbo.

So while the overall forecast for the euro is one of further weakness we should be prepared for these sporadic rallies.

No love for the pound

The darling of the currency markets for much of 2014 has been the GBP which has enjoyed a strong rally against both the dollar and euro.

Late summer is however seeing the currency tire and lose momentum.

"It was eight-week lows for sterling as markets discarded the U.K. currency and headed for higher ground, with investors finding another reason to pare exposure in weaker than expected domestic trade data. Britain’s trade gap unexpectedly swelled to £9.4 billion in June from a revised shortfall of £9.2 in May," notes Manimbo.

The bigger deficit can weigh on the next revision to Q2 growth which is due on Aug 15.

Any loss of economic momentum would suggest a later rather than sooner U.K. rate rise and weigh on the pound.