U.S. Dollar rallied to new high. Euro and pound still low

The dollar skyrocketed to a 16-month peak against the euro and other major currencies on Thursday. On the other hand, the Japanese yen plummeted down towards multi-year lows today. The U.S. inflation reading encouraged bets on interest rate hikes on the market.

According to the report, U.S. consumer prices increased last month at their fastest annual pace since 1990. Investors now argue whether the Federal Reserve will respond by lifting interest rates faster than the central banks in Europe and Japan.

The common currency plunged low today. Traders think that the European Central Bank is lagging on policy tightening. Due to the negative market mood, the euro tumbled down to $1.1459 on Thursday, reaching its lowest level since July 2020.

On the other hand, the British Pound declined slightly on Thursday, but it still traded near a new 11-month low of $1.3388. Thus far, Britain’s better-than-expected GDP data is doing little to support the Sterling.

The Japanese yen extended a sharp decline of recent gains to 114.15 per greenback. The currency exchanged hands close to its four-year low of 114.69 reached last month. Meanwhile, the Australian and New Zealand dollars dropped to one-month lows.

How did the dollar index fare?

The dollar index jumped by 0.2% to 95.02 against a basket of currencies, hitting its strongest level since July 2020. The sharp surge in U.S. government bond yields, including the 30-year Treasury, increasing by 1.5%, supported the greenback – stated experts.

According to UniCredit analysts, investors may drive the EUR/USD pair’s drop towards the next support levels at near $1.1425 and $1.1380. That will be the major test for the currency market today. This test will probably depend on the further rise in long-term U.S. Treasury yields, though, along with the consequent additional widening of yield spreads between German Bunds and USTs. 

After the rally in Treasury yields, which jump higher when prices fall, between five-year U.S. yields and yields at the same tenor in Germany and Japan, the difference became wider than at any time since early 2020.

At the same time, emerging-market currencies have suffered from the greenback’s broad rise. MSCI’s EM currencies index dropped to its lowest level in two months. Furthermore, in Australia, a jobs report showed an unexpected increase in unemployment.

The Australian and New Zealand dollars declined partly due to weaker commodity prices, as well. Overall, the Aussie lost 0.4%, tumbling to a one-month low of $0.7296. The kiwi also shaved off 0.4% at $0.7032.

Deutsche Bank strategist Alan Ruskin noted that from a forex standpoint, traders are in a stand-off. On the greenback, they have the classic dilemma: if the agency brings forward tightening, it is greenback positive; However, if Federal Reserve won’t respond to high inflation, it is USD negative. Currently, the U.S. currency is broadly stuck between these two worlds.

What about the Turkish Lira and other EM currencies?

The Turkish Lira plummeted down to record lows on Thursday. Higher developed market rates caused traders to move on the safe-haven currencies and abandon riskier ones, especially those with high foreign debt, such as Turkey. It considerably narrows interest rate differentials which usually makes EM currencies attractive for the carry trade. The Lira dropped by 1% to new lows of 9.95 against the greenback.

The Chinese yuan was also on course for its biggest percentage fall in two months. Higher oil prices contributed to Turkey’s currency weakness as the country is the crude importer.

William Jackson, the chief emerging market economist at Capital Economics, noted that the U.S. economic data seems to have quite a big effect on EM currencies. He expects currencies in the region to decline further into 2022 as treasuries and the dollar will likely rise further.

South Africa’s rand rebounded to soar by 0.3% on Thursday, after tumbling down by 2.7% on Wednesday. Traders are now waiting for Finance Minister Enoch Godongwana’s first mid-year budget presentation. They expect Godongwana to stay on the fiscally austere path. Elisabeth Andreae, an EM and FX analyst at Commerzbank, stated that the government’s task is Herculean because a rising debt service ratio would further reduce the limited financial policy scope.

On Thursday, Poland’s zloty fell by 0.5% to a six-week low due to intensifying migrant crisis at its border with Belarus. The Czech crown also decreased by 0.4% after the country’s government agreed to resign following an election.