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US Dollar Price Volatility Report: FOMC Rate Cut Odds Plunge

US Dollar Price Volatility Report: FOMC Rate Cut Odds Plunge

2019-11-06 00:25:00
Rich Dvorak, Junior Analyst
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US DOLLAR OUTLOOK IMPROVES THOUGH USD PRICE ACTION STILL FACES HEADWINDS

  • The US Dollar surged during Tuesday’s trading session with the DXY Index on pace to record its biggest two-day rally in 12-months after rebounding off a critical technical support level
  • The rebound in USD price action is gaining traction following solid economic data that has caused an unwinding of front-loaded FOMC rate cut bets
  • Check out the IG Client Sentiment Report for insight on client positioning and the bullish or bearish biases of traders across major USD currency pairs, commodities and equities

The US Dollar skyrocketed to its highest level since mid-October owing predominantly to the ISM Services PMI report for October which topped estimates and crushed market expectations for future Fed rate cuts. I noted in yesterday’s publication of this US Dollar Price Volatility Report that USD outlook hinged on the ISM Non-Manufacturing PMI considering that the services sector makes up approximately 80% of the US economy. Correspondingly, the fundamental US Dollar outlook grows increasingly optimistic following the sequence of events over the last several days highlighted by firming FOMC language, a solid nonfarm payrolls report and latest PMI reading on the US services sector.

The aforementioned is in addition to improving US-China trade relations which pushed spot USD/CNH below the 7.0000 price level and is also a factor likely contributing to the retracement lower in FOMC rate cut expectations. Looking at the DailyFX Economic Calendar for fundamental catalysts with potential to spark USD price action over the coming days we find several Fed officials slated to give speeches and the release of UMich Consumer Sentiment data on Friday to top off the week.

US DOLLAR INDEX PRICE CHART: DAILY TIME FRAME (APRIL 15, 2019 TO NOVEMBER 05, 2019)

US Dollar Index USD Price Chart Outlook Technical Analysis

Chart created by @RichDvorakFX with TradingView

The latest advance in USD price action sent the DXY Index spiking above its downtrend resistance line connecting the series of lower highs since October 01. While the extended rebound off confluent support near the 97.00-97.25 price level is an encouraging sign for US Dollar bulls, the greenback’s selloff throughout last month dealt the DXY Index some serious technical damage.

The 98.00 handle presents an intimidating obstacle with potential of thwarting any sustained rebound attempt by the US Dollar, which is underpinned by the downward sloping 50-day exponential moving average. Slightly above this zone of confluent resistance lies the 38.2% Fibonacci retracement of the US Dollar’s most recent bearish leg. Nevertheless, bullish divergence indicated by the RSI and MACD is quite impressive.

FOMC RATE CUT EXPECTATIONS (MARCH 2020)

FOMC Interest Rate Cut Probabilities Chart for March 2020

As mentioned previously, the improvement in US economic data has caused traders to walk back their expectations for future Fed rate cuts. The repricing over the last few trading days was particularly violent when looking at market implied probabilities for the target Federal funds rate (FFR) range beyond December. Specifically, the odds that the FFR target will range below 1.50% (i.e. cut the FFR by at least 25-basis points from its current 1.50-1.75% range) has plummeted from 61.9% chance on October 31 to a much more modest 38.1% probability today for the March 2020 FOMC meeting.

FED BALANCE SHEET GROWTH & IMPROVING RISK APPETITE COULD KEEP THE US DOLLAR BOGGED DOWN

Chart of Federal Reserve Balance Sheet Total Assets

The Federal Reserve’s balance sheet has once again eclipsed a whopping $4 trillion. The FOMC has slowly and steadily expanded its balance sheet by a staggering $260 billion since September as the US central bank pumps liquidity (i.e. supply of US Dollars) into the financial system in response to the persistence of repo market funding pressures. Although Fed Chair Powell professes that organic balance sheet growth is not to be confused with quantitative easing (QE), the stealth bloating of total assets held by the Fed is expected to have the same effect on the supply of US Dollars - a bearish force for USD price action.

Another major fundamental headwind faced by the US Dollar is presented by a shifting US-China trade war narrative. The more US-China trade relations improve the less likely that there will be demand for safe-haven currencies like the US Dollar. Combine these two concepts together we have ballooning supply and waning demand. That said, US Dollar outlook is neutral on balance considering bearish supply and demand factors, bullish fundamental tailwinds and mixed technicals.

US DOLLAR IMPLIED VOLATILITY & TRADING RANGES (OVERNIGHT)

US Dollar Implied Volatility Trading Ranges Table

-- Written by Rich Dvorak, Junior Analyst for DailyFX.com

Connect with @RichDvorakFX on Twitter for real-time market insight

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