Dollar Extends Losses, Euro Rallies

The dollar fell to two-month lows on Thursday after US inflation came in lower than expected in December. It prompted investors to cut crowded long positions in the currency.

The euro benefited greatly from the move, rising to $1.1479, up 0.3 percent on the day, while sterling and the yen also gained ground.

The fraction was higher than expected. The year-on-year increase in consumer price inflation was as expected at 7%, the highest since June 1982.

Nonetheless, traders do not believe these inflation readings will significantly shift an already hawkish Federal Reserve. With at least three rate hikes already priced, some investors have reduced their bets on further dollar gains. The US index, which measures the dollar’s value against a basket of rival currencies, fell 0.2 percent to 94.782.

The magnitude of the dollar sell-off must undoubtedly be indicative of positioning.

According to Halpenny, so much Fed tightening is now priced in for the coming year. Hence, expectations for longer-term rate hikes are relatively low, keeping the dollar in check.

Investors appear to be signaling that ending QE (quantitative easing), hiking rates four times, and starting QT (quantitative tightening) all in nine months is so aggressive that it will limit the scope for future hikes. It has reinforced the belief that the peak Fed funds rate will be less than 2%. Sterling rose 0.2 percent to $1.3738, as traders believe the British economy can withstand a surge in COVID-19 cases and that the Bank of England will begin raising interest rates as soon as next month.

Currencies

The pound is up more than 4% from its lows in December, and traders have so far ignored a political crisis engulfing Prime Minister Boris Johnson. He apologized for attending a party in the Downing Street garden during a coronavirus lockdown.

The New Zealand central bank has already begun raising interest rates. The New Zealand dollar rose to $0.6876, a 0.4 percent gain in the session and its highest level since late November. The Australian dollar, which tends to perform well when market sentiment improves, rose 0.3 percent to $0.7305.

The Canadian dollar has risen more than 3.5 percent in three weeks, tracking the rise in oil prices as investors look past the potential economic consequences of the Omicron variant. The dollar does not need to rise because the Fed is gearing up for a tightening cycle.