A tricky time for the dollar but expect a December rate hike

According to the most recent minutes from a Fed meeting, a rate hike is highly likely in December

The US dollar enjoyed a mini renaissance in the first half of the month. Asif Hassan / AFP

The US dollar continued to trade heavily through the end of November. The Dollar Index, a measure of the value of the US Dollar against a basket of major currencies, dipped to two month lows at 92.43 this month before hawkish comments from the upcoming Fed chair nominee Jerome Powell sparked an intraday rally in the greenback on Tuesday.

It is a tricky time for the dollar. Fundamentally, the most recent Fed meeting minutes, released last week, suggest that the US economy has continued to show signs of strength - overall economic activity continues to expand while inflation still lags in the US.

The minutes also all but cemented a third US rate hike this year, at the next Fed meeting on December 13. With markets pricing in a 92.8 per cent chance of a hike to the band between 1.25-1.50 per cent, we would expect the recent dollar moves in October and early November to suggest that December’s rate hike has already been priced in. Therefore it will be the Fed’s comments on the future path of rate hikes that we will pay close attention to.

Also driving dollar volatility will be developments out of Washington, in what promises to be a very busy December. Donald Trump and the Republicans are pushing hard to get their tax plans delivered by the end of the year. Earlier in the month, the House of Representatives passed their own version of the tax plan – and the ball now moves to the House of Senate who aim to approve the bill this week.

While it seems significant strides are being made, much needs to be done to circumnavigate the still clear bi-partisan divide along with the gaps within the Republican party itself. Watch for these developments to drive dollar pricing through the early parts of December before the holiday lull sees liquidity dry up heading into the Christmas holiday period.

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Read more from Gaurav Kashyap:

Dollar slips back amid mixed signals over US tax reforms

US tax and upbeat economic outlooks lift dollar’s fortunes

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Expect more fireworks in Washington as the US government faces a debt ceiling breach. The government is scheduled to run out of funds by December 8 and will shut down if the Democrats and Republicans fail to reach an agreement to raise the ceiling. US lawmakers will do everything to avoid a shutdown, and while we don’t expect to see a lapse of the December 8 debt, there will be much posturing between parties after President Trump’s recent Tweet that he doesn’t see a deal riled Democrat leaders, who, cancelled several meetings to discuss the default.

This will continue to erode risk sentiment going into the first week of December, however, expect a favourable conclusion to kickstart a nice dollar rally. Technically, we expect dollar buying to come in between 92.50-93 levels with upsides capped at 96.50 in the weeks ahead.

Across the pond, the euro put together an unforgettable performance against the dollar in November, a period in much the cross moved 1.8 per cent higher. We continue to favour long positions in EUR/USD over the next quarter on the back of expected tightening from the European Central Bank.

We saw the central bank earlier announce a reduction to its current asset purchase program and we can expect this sentiment to keep driving euro prices higher. Expect to see further consolidation in EUR/USD at the current levels as it moves firmly into a monthly Ichimoku cloud. There should be strong support at 1.17 levels going forward, which would represent an ideal long entry level.

And finally, the British pound moved higher against the greenback in November. Recently political uncertainty had kept GBP gains in check, however yesterday’s developments, which saw the potential for a Brexit deal to be agreed, sparked a fresh buying rally in British pound assets which saw GBP/USD move above 1.34 levels on the Dubai Gold & Commodities Exchange. Expect near term support to come in at 1.33 levels with upsides capped at 1.3655 levels in the month ahead.

Gaurav Kashyap is a market strategist at EGM Futures