The U.S. dollar broadly advanced Wednesday, resuming its recent uptrend inspired by higher Treasury yields, as the 10-year yield stayed above 3%.
What are currencies doing?
The ICE U.S. Dollar Index DXY, +0.39% which gauges the buck against a basket of six currencies, rose 0.4% to 91.118, its highest level since mid-January according to FactSet data. On Tuesday, the index fell 0.2%.
The WSJ Dollar Index BUXX, +0.44% which measures the greenback against a wider basket of currencies, gained 0.4% to 85.22, also its highest since January.
The greenback rose to its best level since early February against the Japanese yenUSDJPY, +0.43% buying ¥109.14 compared with ¥108.81 Tuesday in New York.
The euro EURUSD, -0.4087% bought $1.2193, less than $1.2233 in the prior session. The euro will be in further focus Thursday when the European Central Bank issues its latest policy decision.
The British pound GBPUSD, -0.2647% traded at $1.3943, down from $1.3978 late Tuesday.
Elsewhere, the New Zealand dollar NZDUSD, -0.8423% came under more selling pressure and fell to its worst level since December against the greenback, buying $0.7073, down versus $0.7123 late Tuesday in New York.
Emerging market currencies once again felt the pain of the stronger buck. Against the Mexican peso USDMXN, +1.0797% , which has been pushed around by headlines relating to the renegotiation of the North American Free Trade Agreement, the dollar rallied more than 1%, last buying 19.0609 pesos, up from 18.8194.
What’s driving the market?
The U.S. dollar reversed Tuesday’s loss that had broken a five-session winning streak and climbed higher. Still in focus for investors were government bond yields, with the 10-year Treasury TMUBMUSD10Y, +0.66% extended its gains at a four-year high, last yielding 3.007%, a four-year high. The yield would have to rise above 3.047% to match its highest level since July 2011.
Higher yield reflect higher expected interest rates, which commonly support a currency. Rising inflation expectations and a run of speeches by Fed officials last week have reinforced speculation that the Federal Reserve will undertake a more aggressive pace in hiking interest rates.
But the dollar’s uptrend likely also relates to the amount of short positions that were put on in the dollar, which have become expensive to maintain given the rally over the past week or so. Short covering particularly drove the dollar-yen pair higher, market participants said.
But short covering and buying a currency for fundamental reasons are two different things. It is also worth keeping in mind that the ICE dollar gauge is still down 1.1% in the year-to-date.
There are no major economic data reports due Wednesday. The Fed will meet next week. The European Central Bank and Bank of Japan will issue policy decisions on Thursday and Friday, respectively.
What are strategists saying?
“3% yields have not come out of the blue — the Federal Reserve has pointed to rising inflation since the start of the year and has been preparing the market for hikes throughout the year,” said London Capital Group’s head of research Jasper Lawler in a note. “Whilst we are seeing a reaction to the 3% being struck, we are not expecting February’s reaction,” when there was a massive selloff and a correction in U.S. equity market, he said.
“Declining geopolitical tension, particularly decreasing trade war fears have enabled traders to focus their full attention on dollar-boosting fundamentals such as higher yields,” Lawler said. “[D]iverging interest rate expectations from the widening differentials for US. and German or Japanese bond yields is expected to continue to support the dollar going forwards.”
US Dollar (monthly) probing up above the S1 90.82 level. While the probe above the S1 has yet to be confirmed on a significant timeframe, we must understand the overall downside in the auction since December 2016 was due for a counter-trend. Auctions move in zig-zags, not straight lines.