The US dollar saw a broad decline on Thursday, with risk-sensitive Asian currencies leading the gains, following the Federal Reserve’s decision to leave interest rates unchanged, indicating a potential peak in rates.
Investor attention has now shifted to the Bank of England, with the British pound edging 0.3% higher to $1.2180 and strengthening to 86.98 per euro in anticipation of the central bank maintaining high interest rates.
Fed Chair Jerome Powell’s remarks left the door open for another rate hike, but he noted that the risks of doing too much or too little were now balanced, given that the funds rate target ceiling was at a 22-year high of 5.5%. This prompted markets to interpret the Fed’s stance as a green light to maintain a sub-20% chance of a rate hike in December.
As a result of this news, ten-year Treasury yields dropped by 20 basis points from their Wednesday highs, equities rallied, and risk-sensitive currencies experienced gains. The Australian dollar, for instance, surged by 0.9% on Wednesday and an additional 0.7% on Thursday, reaching a three-week high of $0.6439. The New Zealand dollar also achieved a two-week peak at $0.5896.
Bitcoin, often considered a proxy for risk sentiment, broke above $35,000 for the first time since May 2022, reflecting increased risk appetite in the market.
Analyst Tony Sycamore from IG Markets noted the shift in the Fed’s stance, saying, “Going back to the last FOMC meeting, we were talking about more rate hikes, and now it’s a lot more balanced and a lot more cautious.”
Traders are also becoming more convinced that US interest rates may have reached their peak, especially as recent data showed a sharp contraction in US manufacturing in October. However, separate data indicated a resilient labor market, suggesting the Fed may need to maintain rates at restrictive levels for a longer duration.
The euro strengthened by 0.2% to $1.0597, the Swiss franc recorded gains for the second consecutive day, and the yen, which had previously hit a one-year low, recovered to 150.45.
The yen has been grappling with a lack of momentum, even as the Bank of Japan made another adjustment to its yield curve control policy, as the disparity in interest rates with the US remains significant, weighing on the yen’s exchange rate.
Deutsche Bank FX research head George Saravelos highlighted the conditions needed for a reversal of the yen’s underperformance, stating, “At the end of the day, the last two years’ broad yen underperformance can only reverse when one simple thing happens: the Bank of Japan starts hiking rates, and far more than a tiny move to zero.”
The Bank of England is expected to keep rates on hold at a 15-year high later on Thursday, with markets indicating an almost 90% chance of this outcome. However, rate cuts are not fully priced in until September 2024, well after cuts are anticipated to begin on the continent.
RaboBank FX strategist Jane Foley commented on the situation, noting, “Pricing is reflecting the view that BoE rates will have to remain on ‘Table Mountain’ for some months given the UK’s inflation risks.” She added, “On the assumption that the BoE indicates… that rates are set to remain on hold for some months, sterling is likely positioned to win back a little ground versus the euro.”