Dollar Retains Upper Hand: XM.com

Written by Charalampos Pissouros, Senior Investment Analyst at XM.com. An original version of this article can be found here.

The US dollar continued gaining ground against all its major counterparts on Tuesday as risk appetite continued to deteriorate on the back of disappointing Chinese trade data, but also after Moody’s cut credit ratings of several small and mid-sized US commercial banks late on Monday and said that it may downgrade some of the nation’s bigger lenders as well.

Concerns about the performance of the world’s second-largest economy and renewed uneasiness about the credit strength of the US banking sector have prompted investors to seek safety, abandoning risk-linked assets and preferring safe-havens, like the dollar.

Today, China’s consumer prices for July declined for the first time in more than two years, corroborating investors’ deflation fears, although the slide was slightly smaller than expected.

In an unusual fashion, Treasury yields moved in the opposite direction to that of the greenback yesterday, suggesting that US government bonds may have also been considered a safety choice, despite last week’s sovereign downgrade by Fitch.

It could also be that with 10-year yields hovering above 4%, US bonds are becoming even more attractive.

Above: The Dollar index at four-hour intervals shows the July-August rebound.

That said, following the US Treasury’s pledge to increase its debt issuance, the current retreat in yields may prove to be limited and short-lived.

What could add further fuel to the dollar’s recovery and help yields rebound is Thursday’s US CPI inflation report for July.

The headline rate is expected to have increased to 3.3% year-on-year from 3.0%, but the core one is seen ticking down at 4.7% y/y from 4.8%.

Nonetheless, the higher-than-expected wage growth in Friday’s employment report and both the ISM and S&P business surveys for the month are suggesting that the risks for both CPI rates may be tilted to the upside.

The dollar is losing some ground today, perhaps as euro/dollar traders retested the important uptrend line drawn from the low of September 26.

The pair could continue hovering around there waiting for tomorrow’s data. Accelerating inflation could result in the break of that line, paving the way towards the next important support zone of 1.0840.

That said, the move that may raise the prospect of a full-scale reversal may be a decisive break below the important area of 1.0665.

On Wall Street, all three of its main indices closed in the red yesterday, staying in correction mode.

That correction could extend on Thursday if the CPIs reveal that inflation in the US is stickier than previously thought as market participants may reconsider the possibility of a September hike by the Fed and perhaps scale back their rate-cut bets for 2024.

According to Fed funds futures, investors are largely convinced that the Fed is done raising interest rates, while they are anticipating nearly 140 basis points worth of rate reductions for next year.

Despite the reduced risk appetite, oil prices managed to rebound yesterday, after WTI tested the uptrend line drawn from the low of June 28, and they are back near the key resistance barrier of 83.30.

What may have kept oil supported despite concerns about China’s economic performance may have been the upside revision to the US GDP for 2023 from the US Energy Information Administration (EIA) in its monthly report, alongside tighter supply conditions.

The latest recovery is mainly driven by the pledge of major producers, like Saudi Arabia and Russia, to keep supply subdued for another month, but for the outlook to become brighter, WTI may need to overcome the key obstacle of 83.30, which has been acting as a ceiling since November 2022.