Dollar Strength to Continue on Central Bank Policy

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May 26, 2013 By: , No Comments

The US Dollar continued with the strong rallies seen the previous week, gaining against most of its major trading counterparts.  Diverging strategies in central bank policies once again came into the purview of traders, with the US Federal Reserve signaling a potential end point to its
quantitative easing programs.  Currently, the Fed buys $85 billion in mortgage backed securities each month, but this rate could start to see some declines if macro economic data continues to show improvement.  The Fed is watching the labor market, in particular, and the Fed’s targeted unemployment rate is now seen at 6.5%.

Voting members from the US central bank have made it clear that stimulus programs will no longer be necessary if the labor markets improve to this point.  Any evidence of strength in the US jobs figures (or new comments that stimulus programs will be ending soon) will continue to bring buyers back into the US Dollar, and sellers to currencies like the EUR, AUD, and JPY.  It will also be important to watch the activity in commodities, as assets like gold and oil have seen major moves in recent weeks – and these assets are priced in US Dollars.  This means that the Dollar and commonly traded commodities are inversely correlated.  Strength in one area equates to weakness in another, so traders should look to make sure the bearish momentum in gold and oil is intact before committing to new long positions in the US Dollar.

The Week Ahead in Forex 

When looking ahead to the next week, the first few sessions are likely to see reductions in volatility as US markets are closed for a Monday holiday and traders are likely to start moving out of the markets during the summer months.  In next week’s macro data, one of the most important event risks will come with the release of the minutes from last month’s monetary meeting with the Reserve Bank of Australia.  The AUD/USD is currently trading at critical support levels, so traders will be watching for any indication the RBA is looking to reduce interest rates at its next policy meeting. If this does come to fruition, expect the AUD/USD to see sharp moves lower, and remove the long term levels of technical support in the process.

In the UK, we will also have minutes from the Bank of England;s monetary policy meeting, as well as consumer price data in the form of the monthly consumer price index.  The bank of England could see changes in monetary policy of its own, so it will be important to watch these events for indications that the central bank will either increase or decrease its stimulus programs.  Any suggestion that the bank will need to bring additional support to the economy will translate to weakness for the GBP/USD, and build on the already strong momentum that has been seen in the US Dollar in recent weeks.

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