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US Dollar remains volatile after markets receive relief from Europe

  • The US Dollar has a volatile start to the week, although it is on the defensive early on Monday.
  • The talk of the moment is the surprising gain of the left-wing coalition in France.
  • The Dollar Index is hovering around 105.00, testing a vital support level.

The US Dollar (USD) is rocking on Monday with many technical gap-fillers after market openings were very volatile due to the outcome of the second round of elections in France. In a surprise move, Jean-Luc Mélenchon’s left-wing New Popular Front coalition won and claimed victory, while current French President Emmanuel Macron’s centrist Ensemble alliance came in second. This is a surprise blow to Marine Le Pen’s far-right National Rally party, which had taken a landslide victory in the first round of elections last week. With no one having an outright majority and the political agendas very scattered and having hardly any common ground, a hung parliament or a minority government seems to be the only possible outcome for now. Still, the far-right movement seems to be on hold.

On Monday, all eyes will be on the bond market and the spreads between France and Germany. On the US economic front, it is a very quiet start to the week. US Federal Reserve (Fed) Chairman Jerome Powell heads to Capitol Hill on Tuesday and Wednesday for his semi-annual testimony on the economic outlook and recent monetary policy actions before the Joint Economic Committee. This is just ahead of the US Consumer Price Index (CPI) data for June, which is scheduled for Thursday.

Daily Market Drivers Roundup: Up

  • Hungary’s Prime Minister Viktor Orban, who is currently serving a rotating six-month term as President of the European Union, has made another surprise visit. This time he met with Chinese President Xi Jinping, after Orban last week visited Ukrainian President Volodymyr Zelensky and Russian President Vladimir Putin. Orban is expected to head to the United States next.
  • As mentioned above, a hung parliament seems likely in France, yet the far-right movement seems to be on hold. This translates into a fall in yield spreads between France and Germany. Last week, the spread between the two countries’ 10-year sovereign bond yields rose towards 81 basis points when Marine Le Pen’s far-right party was in the lead. The gap is now down to 65 basis points, with, on average, the spread being around 50 basis points under normal conditions.
  • Markets are cheering the stalemate because the far-left party does not have a majority to approve its extensive and excessive spending agenda. In fact, no party will be able to push through any kind of reform until the next election, which will be the presidential election on April 11, 2027.
  • Over the weekend, more key figures in the US Democratic Party came out to call on President Joe Biden to resign and make way for someone else.
  • At 15:30 GMT, the US Treasury Department will auction a 3-month bond and a 6-month bond.
  • U.S. Consumer Credit Change for May is expected to increase to $8.65 billion from $6.4 billion.
  • Quite a turnaround in stocks with both European and US stocks turning green ahead of the US opening bell.
  • The CME Fedwatch tool broadly supports a September rate cut despite recent comments from Fed officials. The odds now stand at 69% for a 25 basis point rate cut. A rate pause has a 26.1% probability, while a 50 basis point rate cut has a slim 4.8% chance.
  • The US 10-year Treasury bond yield is trading at 4.31%, up slightly ahead of the US trading session.

US Dollar Index Technical Analysis: What Now?

The US Dollar Index (DXY) fell in early trading on Monday, with markets looking for direction following the outcome of the second round of elections in France. This news is expected to be digested by US markets as there are no changes taking place in France on the international stage, with no additional spending packages or reforms to be pushed through with a hung government. All eyes will be on bond markets as falls in European yields are also spilling over into US bonds, where a further fall could push the DXY lower.

On the upside, the 55-day simple moving average (SMA) at 105.18 has turned into resistance after an early test during the Asian session that received a firm rejection and pushed the DXY back lower to test the 105.00 level. If that 55-day SMA bounces back up, 105.53 and 105.89 are the next key levels nearby. In case Fed Chair Powell makes some hawkish comments before Congress later this week or the US CPI data points to a pickup in inflation again, the red downtrend line on the chart around 106.23 and the April peak at 106.52 could come into play.

On the downside, the risk of a dive is increasing, with a double support at 104.77, the confluence of the 100-day SMA and the green ascending trendline from December 2023. If that double layer gives way, the 200-day SMA at 104.43 is the guardian that should trap the DXY and prevent further declines. Further down, the correction could head to 104.00 as an initial stage.

US Dollar Index: Daily Chart

Dollar Index: Daily Chart

The feeling of risk

In the world of financial jargon, the two terms “risk-on” and “risk-off” refer to the level of risk that investors are willing to bear over the reference period. In a “risk-on” market, investors are optimistic about the future and are more willing to buy risky assets. In a “risk-off” market, investors start to “play it safe” because they are worried about the future and therefore buy less risky assets that are more certain to provide a return, even if relatively modest.

Typically, during periods of “risk appetite”, stock markets rise, and most commodities – except gold – also appreciate as they benefit from positive growth prospects. Currencies of countries that are major commodity exporters strengthen due to increased demand, and cryptocurrencies rise. In a “risk-off” market, bonds rise – especially major government bonds –, gold shines, and safe haven currencies such as the Japanese Yen, Swiss Franc and US Dollar benefit.

The Australian Dollar (AUD), Canadian Dollar (CAD), New Zealand Dollar (NZD) and minor currencies such as the Ruble (RUB) and South African Rand (ZAR) tend to rise in markets where there is “risk appetite”. This is because the economies of these currencies are highly dependent on commodity exports for growth, and these tend to rise in price during periods of “risk appetite”. This is because investors anticipate higher demand for commodities in the future due to increased economic activity.

The major currencies that tend to rise during periods of “risk aversion” are the US Dollar (USD), the Japanese Yen (JPY) and the Swiss Franc (CHF). The Dollar, because it is the world’s reserve currency and because in times of crisis investors buy US government debt, which is considered safe because the world’s largest economy is unlikely to default. The Yen, because of increased demand for Japanese government bonds, since a large proportion are held by domestic investors who are unlikely to part with them, even in a crisis. The Swiss Franc, because strict Swiss banking legislation offers investors greater capital protection.

Source: Fx Street

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