Why a hawkish Fed will sustain the greenback’s bull run

Policy divergence with other central banks helps the US dollar outperform other major currencies

The US Federal Reserve's hawkishness will keep the bull run intact for the dollar through the summer months. Photo: AFP

Markets continue to trade heavily and in favour of the US dollar, despite an optimistic French election outcome at the weekend and a host of tech companies set to continue earnings season this week.

The US Dollar Index continues to trade higher. At the time of writing, the index moved above 101.5 – its highest level since March 2020.

Fundamentally, not much has changed as markets continue to price in a more hawkish US Federal Reserve. This divergence from other central banks resulted in the dollar beating down other major currencies, including the Japanese yen, British pound and the euro.

Technically, the picture looks very strong for US dollar bulls. Not only did the 50-week exponential moving average cross the 200-week moving average, but the 100-week moving average also crossed the 200-week moving average, which is a very strong technical indicator that the current dollar rally is not complete.

Fundamentally, the picture also looks good for US dollar bulls. Last week, Fed chairman Jerome Powell, in comments to the International Monetary Fund, said that a 50-basis point rise would be on the horizon when the central bank next convenes on May 3 and 4.

Fed policy continues to be dictated by inflation. Markets are pricing in a 50-basis point rise in May and a 74 per cent chance of a triple increase in June, data from CME FedWatch suggested.

Such hawkishness will keep the bull run intact for the greenback through the summer.

The Bank of Japan (BoJ) is to announce its interest rate decision this week. With no changes expected to rates, investors will take more cues from its policy statement and its views on yields.

The bank seeks to keep 10-year yields at about zero per cent. With yields stubbornly inching higher, many will look for clues on what the BoJ will decide: either widen the acceptable range or ditch yield control policy.

This could prove interesting for the dollar and the yen, which has been on a tear over the past two months when it appreciated more than 11 per cent. However, the current theme of divergence between Fed and BoJ policy will continue to weigh down the yen in the short term.

Also on the calendar this week is US first-quarter gross domestic product data, along with Australian and eurozone inflation figures.

Australian inflation — figures scheduled for Wednesday — is expected to have increased 4.6 per cent year-on-year, up from 3.5 per cent.

A stronger-than-expected reading will support the Australian dollar on the US dollar in the short term, as investors will view stronger inflation as a bet that the Reserve Bank of Australia will be more hawkish towards interest rate increases.

The move will be short-lived, however, with shorter-term weakness expected to drag the Australian dollar lower against the greenback.

Meanwhile, US first-quarter GDP is estimated to slow to 1.1 per cent from 6.9 per cent.

Such a vast slowdown should cause intraday volatility in the US Dollar Index, but should not be enough to change the short- to medium-term trend for the greenback.

Eurozone inflation is expected to remain unchanged at 7.4 per cent year-on-year, while the Harmonised Index of Consumer Prices print, excluding energy and food, is expected to rise to 3 per cent from 2.9 per cent.

While this would suggest a hawkish move in the euro on the dollar, the large divergence in policy between the Fed and the European Central Bank will keep the currency pair under pressure in the short term.

With the French elections done and dusted, President Emmanuel Macron’s win could not stop the slide in the euro against the dollar, which sank below 1.08 levels.

Euro-dollar is currently trading at March 2020 lows. The next level of support kicks in at 1.064, which could be tested during the summer months.

Despite the start to the earnings season, US equity markets remain under pressure as a hawkish Fed continues to weigh down sentiment.

With several tech companies such as Apple, Microsoft, Amazon and Alphabet set to announce this week, it will be interesting to see if there will be enough momentum to stop the current slide.

In my previous column for The National, I had noted the cyclical rotation out of tech and into more mainstream industries. That trend has continued, with the S&P 500 and the Nasdaq 100 index affected by the most pronounced losses.

Can a stronger run of earnings from tech companies stop the current slide? Technical data points to the contrary.

Looking at the UT 100 index (Nasdaq 100), we had a recent move where the 100-day exponential moving average crossed below the 200-day exponential moving average. This is a strong bearish indicator and suggests the weakness in the tech-heavy Nasdaq index is likely to continue in the interim.

Commodities also continue to trade softly. Oil remains under pressure with Chinese lockdowns hurting demand, while gold is testing support above $1,910, a break-off that could expose $1,890 levels in the weeks ahead.

Gaurav Kashyap is risk manager at Equiti Securities Currencies Brokers. The views and opinions expressed in this article are those of the author and do not reflect the views of Equiti Securities Currencies Brokers