As geopolitical tensions escalate in the Middle East, Ukraine has launched U.K.-made Storm Shadow missiles into Russia and the Kremlin has loosened its policy for using nuclear weapons. However, Russian President Vladimir Putin said he is open to a peace deal brokered by President-elect Donald Trump.
These events combined with the strong U.S. economic data and the Federal Reserve's cautious rhetoric on the interest rate cuts, may push the U.S. Dollar to new highs, says Kunal Sodhani, vice president of the global trading center at Shinhan Bank.
What Happened: Last week, the greenback hit a fresh 52-week high at 107.07 level. The U.S. dollar has rallied more than 3% since the Nov. 5 presidential elections as "Donald Trump's policies of higher tariffs and lower taxes are potential drivers of inflation and might slow the Fed's easing cycle," said Sodhani.
"The yearly highs of 107.07 acts as a first immediate resistance for DXY, but a break of it may let it test 108.60 while 105.10 a support," added Sodhani.
On Thursday, the dollar index sustained a level above 106.5, buoyed by expectations surrounding the policies of the incoming Trump administration, which could fuel inflation and therefore limit further interest rate cuts by the Federal Reserve, according to Trading Economics. Sodhani sees an almost 2% upside from these levels.
Why It Matters: As per the data provided by Sodhani, the CME FedWatch Tool is pricing in a 59.1% chance of another 25 basis points cut by the Fed in the upcoming December 18 meeting. Whereas, there is a 40.9% chance that the rates may remain unchanged.
"While the rate-cut scenario is the most probable, traders have significantly pared back some of the rate-cut bets compared with a week ago," said Sodhani.
Fed Board Governor Lisa Cook in her speech at Charlottesville, Virginia, remained confident that the Fed will lower inflation toward its 2% goal, but she didn't reveal whether she will support a rate cut next month.
On the other hand, Fed Board Governor Michelle Bowman, speaking at West Palm Beach, Florida added that despite seeing "considerable progress" on inflation, it seems to have "stalled in recent months," meaning the Fed should be cautious. She commented that neutral rates could not be as low as expected, by some officials at the FOMC.
What Are Other Analysts Saying: According to a Bloomberg report, Goldman Sachs's outlook for the last two years predicted the U.S. currency would retreat from lofty valuations. "We now expect tariffs to feature prominently in the U.S. policy mix next year, along with some further fiscal changes." Tariffs, alongside a booming economy and rising U.S. asset prices are, "a potent combination for the (stronger) dollar," they added.
