US Dollar gains as hawkish Fed tone underpins Greenback

• US Dollar books gain against most pairs with the dust settling over the Fed rate decision. 
• Traders do not get much time to absorb the Fed’s message as PBOC cuts rates again and ECB is on the docket.
• US Dollar Index performs knee jerk reaction and is being priced back above 103.

The US Dollar (USD) Is clawing back after its lacklustre performance on Wednesday where traders tried to keep their powder dry for the US Federal Reserve (Fed) rate decision. The overall consensus is that, although there is a rate pause, the hawkish undertone was quite firm and will play a role in the coming months. Meanwhile China’s central bank People Bank of China (PBOC) has cut rates on 1-year loan rates from 2.75% to 2.65%.

With the Fed meeting out of the way, traders do not have much time to rethink their strategy as a big slew of data is just around the corner again this Thursday. Out of the US, Retail Sales are set to hit the wires at 12:30, joined by Initial Jobless Claims, NY Empire State Manufacturing and Philadelphia Fed Manufacturing Index. Big focus and importance as well at the other side of the Atlantic Ocean as the European Central Bank (ECB) is to announce another rate hike to 4%, with a press conference at 12:45 GMT where ECB Chairman Christine Lagarde will elaborate on the further rate path for the Eurozone. 

Daily digest: US Dollar demand flairs up as focus shifts to Europe

• The Greenback advances near 1% against the Japanese Yen as traders prepare for the BoJ meeting on Friday. 
• Traders across the Atlantic Ocean are gearing up for the European Central Bank (ECB) rate decision at 12:15 GMT with a speech from its chair Christine Lagarde at 12:45 GMT.
• In between these, at 12:30 GMT, the market gets a view on US Retail Sales, where a small drop is expected in both the core and overall numbers, and Jobless Claims. 
• Some Manufacturing data will also come out of New York with the NY Empire State Manufacturing Index and from Philadelphia the Fed Manufacturing Index. These smaller economic numbers could ease the hawkish move from the Fed a bit if they all point to lower activity and less growth. or even contraction. 
• Overnight the PBOC has cut its 1-year loan rate to 2.65% from 2.75%.
• On Wednesday, US Fed Chairman Jerome Powell mentioned during the press conference after their rate pause that inflation pressures remain to run high. Inflation still needs to get back to 2% and it will be a long way. The Fed will remain data dependent and will decide on a meeting-by-meeting basis. Powell reiterated again that core inflation is their main and biggest issue and still needs to be brought down further. 
• Except for China, all other major indices are in the red in both Asia and Europe. The US equity futures are all three in the red as well as the dust settles over the hawkish stance of the Fed. 
• The CME Group FedWatch Tool shows that markets are pricing in a 71.9% chance of a 25 basis point (bp) hike on July 26th.  Overall, the point of view here seems to be just one more hike and done as all other futures for 2023 are pointing to an unchanged rate level. 
• The benchmark 10-year US Treasury bond yield trades at 3.81%. During the Fed rate pause announcement, it briefly peaked to 3.85%. With the European trading session kicking into gear, yield is slightly heading lower.

US Dollar Index technical analysis: Sell the rumour, buy the fact

The US Dollar is a perfect example of sell the rumour and buy the fact, as the Greenback weakened in the wake of the US Fed rate pause decision, and rallied substantially afterwards. This made the Dollar Index (DXY) make a knee jerk reaction after it dipped below 103 and was on its way to 102.57. With the DXY back above 103 it will be key to see if the index can close above 103 in order to rally higher in the coming days. 

On the upside, 105.37 (200-day Simple Moving Average) still acts as a long-term price target to hit. The next upside key level for the US Dollar Index is at 105.00 (psychological, static level), which acts as an intermediary element to cross the open space.

On the downside, 103.05 (100-day SMA) aligns as the first support level to confirm a change of trend. In case that breaks down, watch how the DXY reacts close to the 55-day SMA at 102.57 in order to assess any further downturn or upturn. 

How does Fed’s policy impact US Dollar?

The US Federal Reserve (Fed) has two mandates: maximum employment and price stability. The Fed uses interest rates as the primary tool to reach its goals but has to find the right balance. If the Fed is concerned about inflation, it tightens its policy by raising the interest rate to increase the cost of borrowing and encourage saving. In that scenario, the US Dollar (USD) is likely to gain value due to decreasing money supply. On the other hand, the Fed could decide to loosen its policy via rate cuts if it’s concerned about a rising unemployment rate due to a slowdown in economic activity. Lower interest rates are likely to lead to a growth in investment and allow companies to hire more people. In that case, the USD is expected to lose value.

The Fed also uses quantitative tightening (QT) or quantitative easing (QE) to adjust the size of its balance sheet and steer the economy in the desired direction. QE refers to the Fed buying assets, such as government bonds, in the open market to spur growth and QT is exactly the opposite. QE is widely seen as a USD-negative central bank policy action and vice versa.