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US Dollar Outlook: Will Fed Spook Investors Again? S&P 500 Eyed

US Dollar Outlook: Will Fed Spook Investors Again? S&P 500 Eyed

Daniel Dubrovsky, Strategist
US Dollar Basket chart price

US Dollar Forecast: Neutral

  • Scope for further declines in the US Dollar could narrow
  • Markets were reminded of volatility risk as S&P 500 sank
  • Key risks: retail sales, Powell, virus wave, balance sheet

The haven-linked US Dollar will likely remain glued to broader trends in global risk appetite. Markets were given a reminder of the downside risks this past week as the S&P 500 tumbled about 6 percent over the course of 24 hours. Such a rapid and sudden swing in volatility tends to bode well for the world’s reserve currency. On the flip side, further reduction in volatility will likely continue deteriorating demand for the Greenback.

So what is the fundamental road ahead? Focusing on domestic concerns, US retail sales are due on Tuesday. Transactions are expected to rise 7.4 percent m/m in May, but it wouldn’t be surprising to see a better-than-expected outcome. On the chart below, local economic data results are now increasingly tending to outperform relative to expectations. The level of upside surprises are matching points last seen over 3 months ago.

Consumption is roughly two-thirds of GDP and higher spending habits could offer the Dow Jones and S&P 500 a boost. That may sink the US Dollar as it underperforms some of its growth-oriented counterparts such as the Australian and New Zealand Dollars. Yet, investors will also likely be paying close attention to commentary from Federal Reserve officials, including Chair Jerome Powell.

US Citi economic surprise index

The upside potential for the US Dollar could come from cautious central bank commentary. Mr Powell may reiterate some of his concerns about the economic outlook mentioned last week. He is due to appear before the Senate Banking Committee on Tuesday, delivering the semi-annual policy report. The next day, the Fed Chair will appear before the House Financial Services panel. Other speakers are also due.

Doubts over the pace of an economic recovery may reignite risk aversion, supporting USD. Markets may also look forward to nations gradually easing lockdown measures. This as states like Texas, Florida and California have seen rises in Covid-19 cases following nationwide protests and riots after the killing of George Floyd. A second wave could perhaps discourage travel and consumption, sinking equities and boosting the US Dollar.

Keep in mind that in the background, the Federal Reserve seems to be noticeably scaling back its uptake in assets. This past week, the size of the central bank’s balance sheet was practically left unchanged. That might have left markets yearning for more liquidity. If this trend continues absent material improvements in local economic conditions, the scope for further declines in the Greenback could narrow.

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S&P 500 vs fed balance sheet

--- Written by Daniel Dubrovsky, Currency Analyst for DailyFX.com

To contact Daniel, use the comments section below or @ddubrovskyFX on Twitter

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

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