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Led by EUR/USD & USD/JPY, DXY May Have Bottomed

Led by EUR/USD & USD/JPY, DXY May Have Bottomed

Talking Points:

- DXY Index breaks through the critical 101.03 level thanks to Fed Chair Yellen.

- EUR/USD & USD/JPY the best places to trade USD strength if US yields move up; if CPI misses today, AUD/USD may be the best opportunity.

- Keep an eye on short-term positioning shifts as traders turn against the US Dollar with the DailyFX Speculative Sentiment Index.

Join me at 8:15 EST/13:15 GMT for live coverage of the US CPI & Advance Retail Sales (JAN) reports.

There are two important data releases this morning as DXY Index trades through 101.03 (our crucial level over the past several weeks), but we're focused on one in particular: the US CPI report. According to a Bloomberg News survey, US consumer prices increased by +0.3% m/m again in January, or by +2.4% from +2.1% (y/y). The core readings should be similar, at +0.2% m/m (unch), and at +2.1% from +2.2% (y/y).

These figures aggregately are just starting to push through the Fed’s +2.0% medium-term target, which not only means they should be strong enough to keep the Fed on track to hike rates at least twice this year, but perhaps begin to raise expectations for a move in March (only a 36% chance of a hike, per Fed funds futures). A faster rate of inflation may be the result of the tightening labor market, which has accelerated wage growth in recent months.

Chart 1: DXY Index 4-hour Timeframe (December 26, 2016 to February 14, 2017)

These data will come against the backdrop of Fed Chair Janet Yellen testifying on Capitol Hill. In particular, the context in which the data is occurring - potentially before a wave of fiscal stimulus - is important. After six years of sclerotic US fiscal policy, there are high odds that gridlock in Washington D.C. ends now that Republicans control the House, the Senate, and the Presidency. Since 1965, there have only been 18 years in which one party has had singular control of the government; and during those years, the US structural budget deficit has increased just short of +0.5% per year.

This is, of course, the gist of the “Trump reflation trade”: the combination of tax cuts and infrastructure, or deficit spending collectively, will help push inflation expectations higher, thus necessitating tighter US monetary policy. In other words, the path of rate normalization could be faster than previously expected if fiscal stimulus transpires as rumored.

If US yields are able to continue pushing higher around today's data, that bodes well not only for DXY (thus weakness in EUR/USD and strength in USD/JPY), but also in risk-sensitive pairs like AUD/JPY or inflation hedges like US equity markets.

Webinar Schedule for Week of February 12 to 17, 2017

Monday, 7:30 EST/12:30 GMT: FX Week Ahead: Strategy for Major Event Risk

Wednesday, 6:00 EST/11:00 GMT: Trading Q&A

Thursday, 7:30 EST/12:30 GMT: Central Bank Weekly

Read more: DXY Peeks Over the Wall, but Yet to Clear Key Level

--- Written by Christopher Vecchio, Senior Currency Strategist

To contact Christopher Vecchio, e-mail

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.