Foreign Exchange Commentary

Summary

• Jerome Powell testified on Capitol Hill reiterating his hawkish stance towards cuts and stressing the need for further monitoring due to economic uncertainty.
• President Trump’s decision to name a new Federal Reserve chair by late summer sparks concerns over Fed independence.
• The DXY is at 3-year lows, down 11% YTD at 97.21 due to deficit issues, further rate cut expectations and foreign currency appreciations.
• The Euro is trading at YTD highs, 1.17 as the ECB cutting cycle concludes.
• Volatility has calmed after the Israel-Iran ceasefire though there is still fear a conflict could breakout at anytime.
• The Japanese yen may experience increased strengthening as further hikes are being discussed from the BOJ.

Noteworthy

• Dollar Dives, Euro Thrives, Ceasefire Survives

Powell on the Hill
Fed Chair Jerome Powell gave his semi-annual testimony on Capitol Hill and delivered a hawkish tone. Amidst a barrage of questions from various Representatives and Senators, Jerome Powell remained adamant that his bankers were still closely determining what the full effects of President Trump’s tariff policies were; and that inflation and the labor market remain their primary focus in determining cuts. Despite reiterating his faith in the U.S.  economy, he retained a cautious approach to the economy and stressed the need for diligence when approaching any rate cuts. However, there is growing speculation that Trump will name a new Fed chair as early as September or October. This could induce some volatility in FX markets as a new chair who seemingly aligns with Trump’s vision of multiple rate cuts could create a “lame-duck” remainder term for Powell as differing policy ideologies shape current and future FOMC actions.

Dollar Dives
The DXY is at 3-year lows upon Trump’s narrowing of picks for the next Fed Chair. Among the main concerns are continuing tariff uncertainty and the bickering between politicians over the U.S. deficit/big, beautiful bill. Coupled with GDP QoQ dropping -0.5% (-0.2% expected) and an overall weaker unemployment trend (initial jobless claims were better this week though at 236,000 vs 245,000 expected) the likelihood of a rate cuts has increased to a 19% chance of a cut in June and an 91% chance of a September cut. In an essay Friday morning, Fed Governor Neel Kashkari wrote that he expected two cuts. This pressure has the DXY at 97.21, down 11% year to date. The dollar is appearing dangerously close to exiting an 18-year bull run and could continue to slide over the coming months. Some of the most notable outflows in the greenback have been inflows into commodities, other currencies such as the Swiss franc, the Japanese yen, the euro, and Great British pound. Equity markets continue to rally with DAX and FTSE up 20% since April and the Nikkei up 28%. The S&P has returned roughly 24% since April and is at all-time highs.

Euro Thrives
The ECB’s Luis De Guindo in a speech this week mentioned that oil volatility stemming from the Israel-Iran conflict is leaving inflation a bit persistent but signaled that Eurozone was “very close to its target” implying there may be a door to further cuts to maintain the ECB’s goals of 2% inflation. Despite this, the Euro reached as high as 1.1744, though currently trading at 1.1722. Further U.S. rate cut expectations, continued sticky inflation, and de-dollarization, are some of the drivers behind the Euro finally breaking out of its 1.16 resistance level (it spent weeks range bound between 1.12-1.14.) The options market appears to be placing premiums on EUR/USD calls as further weakening of the dollar and subsequent strengthening of the Euro gets priced into the market. This is leading some bulls to target a new resistance level of 1.20. As the ECB draws an end to its cutting cycle and the U.S.  is only just beginning look for elevated activity from the world’s most traded currency pair.