Forecast for the US Dollar Ahead of Fed Decision

I expect the U.S. dollar to tumble after today’s announcement of interest rate by the US Federal Reserve. The chances of the Federal Reserve increasing rates by 25 basis points at this August meeting are very low and I think today’s FOMC statement has the potential to disappoint many market players.

I expect the U.S. dollar to selloff after today’s announcement of interest rate by the US Federal Reserve. The chances of the Federal Reserve increasing rates by 25 basis points at this August meeting are very low and I think today’s FOMC statement has the potential to disappoint many market players. Traders expect the Federal Reserve to increase rates by 75 bps over the next eight FOMC meetings, according to overnight index swaps traders. Yet, even though real GDP growth picked up to a 1.9 percent annual rate, the U.S. economy remains very fragile and the recent spike in economic activity only reflects spending out of tax rebates. Moreover, the chances of the Federal Reserve increasing rates today are below 7 percent. Indeed, even though I project the EUR/USD to trade below 1.50 before the end of the year I expect the U.S. dollar to tumble after today’s FOMC rate decision. To illustrate this trading idea please take a look at the scatter graph found below which plots the weekly percentage change of a currency pair against its current overnight interest rate.

Among other things, the negative slope of the regression makes clear that currencies with high interest rates have been depreciating over the past week. It also makes apparent that the U.S. dollar has been rallying against the world’s most heavily traded currencies on speculation the United States Federal Reserve could open the door for a series of rate hikes in the months ahead. In fact, the U.S. dollar is trading close to a one month high against the euro and has been appreciating sharply against the Japanese yen. Yet, the EUR/USD, USD/JPY and AUS/USD look oversold in comparison with other currency pairs and if U.S. Federal Reserve disappoints they may quickly become the biggest winners. Jamie Saettele, Senior Currency Strategist at DailyFX, had also a strong opinion on the EUR/USD and he believes the Dollar Looks Vulnerable to Short Term Weakness.

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Written by Antonio Sousa, Chief Strategist
Questions? Comments? E-mail: <[email protected]>[/B]