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US Dollar Mired by FX Volatility & Expanded Fed Arsenal

US Dollar Mired by FX Volatility & Expanded Fed Arsenal

Rich Dvorak, Analyst

US DOLLAR EDGES LOWER AS FED UNLEASHES EXPANDED MONETARY POLICY ARSENAL BUT REMAINS SUPPORTED BY RISING FX VOLATILITY

  • US Dollar comes under pressure after the FOMC revealed “extensive new measures”
  • USD price action remains bid amid the coronavirus pandemic and widespread risk aversion
  • The US Dollar Index still trades near three-year highs despite bearish Fed developments as FX volatility hangs around extreme levels

The US Dollar has notched an incredible surge over the last two weeks. In fact, the US Dollar Index, or DXY Index, is up a whopping 7% since its March 09 low. Greenback gains have been largely attributed to demand for safe-haven currencies recently dominating forex market dynamics.

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This has resulted primarily from sustained risk aversion amid the coronavirus pandemic, which continues to plague the world and paralyze economic activity. In response to economic fallout stemming from the novel coronavirus, or COVID-19, global central banks have coordinated to provide massive amounts of stimulus via interest rate cuts and quantitative easing.

US DOLLAR INDEX (DXY) DROPS AS US INVESTMENT GRADE CORPORATE BOND ETF (LQD) SPIKES

LQD Price Chart Investment Grade Corporate Bond ETF US Dollar Index DXY Federal Reserve Coronavirus

Chart created by @RichDvorakFX with TradingView

After this morning’s eye-popping headline that the Fed announced unlimited QE crossed the wires, however, the US Dollar has begun to come under pressure. Specifically, the Federal Reserve revealedextensive new measures to support the economy like boosting purchases of Treasury securities and agency mortgage backed securities “in the amounts needed to support.”

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In addition to unlimited balance sheet expansion, or QE-infinity, the FOMC announced a monumental change to its monetary policy arsenal: a new credit facility to purchase US investment grade corporate bonds off the open market – including US listed exchange traded funds (ETFs) like the iShares investment grade corporate bond ETF (ticker symbol: LQD). With the Fed ramping up asset purchases, and the market supply of USD circulating the financial system, the broader US Dollar is starting to pull back from three-year highs with the DXY Index trading at session lows.

US DOLLAR INDEX (DXY) REMAINS SUPPORTED AS FX VOLATILITY (FXVIX) LINGERS AT EXTREME HIGHS

US Dollar Index Price Chart FX Volatility Fed Extensive Measures Unlimited QE

Chart created by @RichDvorakFX with TradingView

I recently noted that the surging US Dollar hit a wall last week as the DXY Index seemed overextended. At the same time, extremely high readings of currency volatility might look to keep USD price action and US Dollar Index supported. On that note, FXVIX, an equally-weighted index of 30-day implied volatility readings on the Euro, Pound Sterling and Yen, just skyrocketed to its highest reading on record.

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Nevertheless, while the US Dollar may be due for a modest pullback, high volatility is still a threat to global markets and could reflect how the risk of recession continues to loom large. With other volatility benchmarks pressing decade highs and levels not seen since the global financial crisis, such as the VIX Index, risk aversion might linger and keep the US Dollar bolstered.

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

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

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

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