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Is a Rate Expectations Floor Keeping the USD Afloat?

Is a Rate Expectations Floor Keeping the USD Afloat?

Christopher Vecchio, CFA, Senior Strategist

Talking Points:

- Probability of a rate hike in 2015 has dipped to around 30%.

- If a bottom in rate expectations is near, then USD may turn higher.

- See the October forex seasonality report that favors US Dollar weakness.

Relative to expectations, Friday's September US labor market data release was a major disappoint. One might also say that, relative to the actual day, the market's reaction - or lack thereof - has also been a disappoint. The USDOLLAR Index established an inside day hammer yesterday, and price action today has thus far failed to yield a break either of Friday's high or low.

What may be helping keep the US Dollar afloat, despite further evidence of US growth rates being pulled lower, is that market participants have rapidly lost faith in the Federal Reserve's desire to raise rates this year. Whereas there was nearly a 65% chance of a rate hike in December ahead of the September FOMC meeting, coming into today, the Fed funds futures contracts were only pricing in only around a 30% chance of a rate hike in 2015 at all.

In turn, because markets are pegging such a small likelihood to the Fed moving the meter on rates at all, it seems that the 'base case scenario' for markets has been for disappointing US data. To loosely paraphrase a quote from a favorite movie of mine, "if you keep your expectations low, you're never disappointed." This best describes the US Dollar's situation right now: markets aren't expecting the Fed to raise rates in 2015, so any weak economic data merely confirms the expectation; its hard to disappoint a market that expects little positivity.

As such, with the world embracing a binary view of what the Fed may do - will they raise rates in 2015 or not - and the switch in the "no" position, a floor in rate expectations may be artificially be keeping the US Dollar afloat. Now that rate expectations are in the gutter, the only way for them to go is back up, which has previously proven to be a source of US Dollar strength over recent months.

See the above video for technical considerations in EURUSD, GBPUSD, AUDUSD, USDJPY, and the USDOLLAR Index.

Read more: October Forex Seasonality Foresees Disappointing US Dollar Performance

--- Written by Christopher Vecchio, Currency Strategist

To contact Christopher Vecchio, e-mail cvecchio@dailyfx.com

Follow him on Twitter at @CVecchioFX

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DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.

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