Dovish Powell comments send DXY index lower

DXY dollar index dips on dovish comments from Fed Chair Powell on Thursday

On Thursday, the U.S. dollar index dropped by as much as 0.33% following Federal Reserve Chair Jerome Powell's comments at an economic forum in New York, which markets generally perceived as dovish — even as the central bank head warned that the Fed might consider raising interest rates again.

Powell acknowledged that the resilience of the U.S. economy and the sustained tightness in labor markets might justify further rate hikes. However, he also observed that recent increases in bond yields helped “significantly” tighten financial conditions.

Over the course of the past 19 months, the Fed has increased its policy interest rate to a level of 5.25%—5.5%. Powell described the current policy stance as "restrictive," putting downward pressure on economic activity and inflation.

Powell also pointed out that the cumulative impact of the swift rate hikes might contribute to a slowdown in the economy during the upcoming months.

“Given the fast pace of tightening, there may still be meaningful tightening in the pipeline,” he said.

Powell speech: Long-term Treasury yields reach 16-year highs

Multiple officials have noted the impact of rising Treasury yields in recent weeks. The benchmark 10-year Treasury bond yield reached a 16-year high of 4.996% on Thursday.

Markets.com Chief Market Analyst commented on the dynamics in his morning notes on Friday, highlighting the upward bond yield dynamic:

“Wild moves in Treasury markets yesterday betrayed the rather febrile mood – the US 10yr Treasury swung 10bps as Fed chair Jay Powell spoke, kissing 5% for the first time in 16 years whilst stocks fell again.”

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USD outlook: Powell comments mainly affect yields, USD in the backseat

Market expectations anticipate that the Federal Reserve will maintain its current interest rates in the near term, yet there is some likelihood factored in for an additional hike.

Fed funds futures imply there is a 30% probability that the Fed will implement a rate hike in December — down from 39% before Powell's remarks. The CME Group's FedWatch Tool also indicates that there is no probability assigned to a rate hike in November.

Shaun Osborne, chief foreign exchange strategist at Scotiabank, told Reuters that Powell’s speech on Thursday was fairly even keeled:

"[Powell’s comments were marginally more dovish, I guess, but he was pretty careful to leave the door open to more tightening if the economic circumstances warrant that. It was a pretty even-handed message, I think. Financial conditions are tightening, there’s no getting around that. It moves the needle towards the Fed doing less rather than more.”

Vassili Serebriakov, an FX strategist at UBS in New York, told the publication that the impact of the Fed Chair’s comments mainly affected Treasuries and long-term bond yields, as opposed to currency markets:

“The focus has been on the Treasuries ... and most of the focus and the volatility has been in longer-term yield, which tend to have less of a direct impact on FX markets than the front-end yields typically. It's to some extent the question of are long-term yields rising because of the stronger growth outlook in the U.S., or is there also an element of supply impact and concerns over longer-term fiscal policy? I think that’s maybe why the impact on FX is a little bit less straightforward.”

The dollar index was last down 0.06% on the day at 106.19, having recovered some ground after falling on Thursday, as per MarketWatch data. The euro to dollar rate gained 0.09% to trade at $1.0595.

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