DXY at the Mercy Geopolitical Developments

USD Forecast:

USD Forecast: Neutral

• dollar index (DXY) is coming back to life as demand for safe havens increases amid the Middle East conflict.
• Fed officials say higher yields will be a positive in the fight against the financial crisis. inflation.
• The situation in the Middle East and the actions of policymakers at the US Federal Reserve will likely drive price trends over the coming week.
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read more: USD/JPY short: DXY rally pause and Bank of Japan’s foreign exchange intervention

US CPI, dovish Fed rhetoric and yields rising

The US dollar has had an interesting and volatile week, to say the least. A strong end to the week following the US CPI data and rising tensions in the Middle East saw the dollar index resume its rise from last week’s weak close.

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Fed policymakers struck a slightly dovish tone early in the week, giving the dollar bear hopes of a deeper retrace. Fed officials said rising long-term Treasury yields may mean the Fed doesn’t need to take as many steps going forward. This was echoed by Rafael Bostic and Susan Collins, who said the rising yield environment reduces the need for further monetary policy tightening in the short term. Now, while the US 10-year yield has risen this week, it is still below last Friday’s peak and is actually experiencing a pullback trade at 4.62% at the time of writing.

US 2-year and US 10-year yields

Source: TradingView, created by Zain Vawda

This week’s US Consumer Price Index (CPI) statistics showed sticky signs, especially with concerns about the financial services sector. The scale of the move is quite surprising given that interest rate hike expectations at the December FOMC meeting barely rose to a high of 42% following the CPI results, but ended the week at around 30%. Ta. This is partly related to the growing uncertainty surrounding the geopolitical situation in the Middle East.

Expectations for Fed rate hike (December meeting)

Source: CME FedWatch Tool

The geopolitical situation in the Middle East may be on the verge of escalation, which gave further momentum to the dollar on Friday. At the time of writing, Israel is about to launch ground air strikes on Gaza, which could lead to an escalation of the conflict since Hezbollah has already said it will not withdraw from the war. Spreads involving countries like Iran and other Arab countries are a real concern and could have a positive impact on the US dollar, and energy markets could pick up as well, something market participants should consider. This has become a real risk. In my opinion, her CPI data for the US should not have caused such a reaction by itself, so this may explain some of the sharp rise in the USD.

US Secretary of State Anthony Blinken is also expected to meet with the leaders of Saudi Arabia and Egypt to avoid escalating tensions. At the moment, there are concerns that the USD will continue to be supported through its safe-haven appeal, and given the lack of data to make a big impact, this could even be a major driver next week.

economic data entry The week ahead: Focus on retail sales

Looking ahead to next week, we see a slowdown in terms of the only high-impact data events being retail sales and building permit data releases. But there’s a lot of Fed meeting next week, which could lead to more volatility depending on how the market perceives the data. The question is whether geopolitical risks can outweigh comments from Federal Reserve policymakers, and the winner could be the main driver of dollar index price action next week.

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Technical outlook and final thoughts

From a technical standpoint and looking at the dollar index, it remains quite volatile despite closing on a strong note in both the daily and weekly time frames. Last week, a shooting star candle closed without follow-through, but much of that was due to fundamental factors, which are now overshadowed by technical factors. Relying on candlestick patterns and other technical indicators may not be very reliable at times like these when special attention needs to be paid to fundamental factors.

However, looking at the chart, there are some important levels to note, and the 107.00-107.20 area remains a key obstacle to further upside. This caps Friday’s gains and could pose a challenge early in the week unless the gap widens further over the weekend. There is currently no significant resistance above 107.20 until the October 2022 swing low of the 109.50 mark.

US dollar index (DXY) Daily chart – October 13, 2023

Source: TradingView

Key levels to note:

support level

resistance level

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Author: Zain Vawda, Market Writer DailyFX.com

Contact and follow Zain on Twitter: @zvawda