USD Rallies, Treasury Yields Up After Fed Cuts Rates

December is not a foregone conclusion for another rate cut is the main takeaway from today’s meeting. Despite the Fed cutting rates again and announcing the end of QT, Powell’s refusal to commit or even lean into another rate cut at their next meeting seems to be the big item from today’s rate decision. There were two dissents at today’s vote, with Miran wanting more rate cuts and Schmid from Kansas City coming in as more-hawkish, which is probably the larger surprise.

And in a lesson of expectations, 10-year rates are up by 8 basis points on the day and over the 4% marker as USD has rallied up to a fresh two-week high, fast approaching the 99.40 level in DXY that held the advance earlier in the month.

USD

I looked into the setup around DXY both in yesterday’s webinar and in an article ahead of today’s announcement, and while recent price action in USD was slow and non-directional, the broader backdrop retained a bullish lean as taken from both the falling wedge formation that had built over the past few months and the possible set up of a morning star formation on the monthly chart. For that formation to confirm, the USD will need to close the month above the 98.98 level, and there’s still several risk events on the economic calendar for Dollar bulls to contend with, key of which are the BoJ and ECB rate decisions.

From the daily DXY chart, price held a key zone of support at the 98.60 level and is now testing above the 99-handle. The 99.40 level is what held resistance from the falling wedge breakout earlier in the month so that’s what bulls need to beat to continue the trend that started from the rate cut low back in September. For bullish continuation setups, ideally, buyers would defend the 98.98 Fibonacci level.

US Dollar Daily Price Chart

Chart prepared by James Stanley; data derived from Tradingview

USD Longer-Term

Last year’s rate cuts from the Fed drove a strong bullish backdrop in the USD, and the additional component to that was the jump in Treasury yields. It’s still early since the rate cut but the question now is whether we’re at the forefront of a similar scenario, with 10-year yields pushing back-above the 4% marker at this meetings announcement.

From the weekly DXY chart below, we can see where the first half of the year was decisively bearish in the USD. But more recently, it’s been a different tone, even with the Fed cutting. Last year saw the build of a falling wedge formation lead into the Q4 reversal, and a similar albeit longer-term formation has developed this year.

USD initially began to break out of that formation in early-October, again, similar to last year, but this year’s episode has so far been more restrained as that 99.40 level has held bulls back in DXY.

US Dollar Weekly Chart

Chart prepared by James Stanley; data derived from Tradingview

USD/JPY

The Bank of Japan rate decision later tonight is an important component of USD themes. And USD/JPY remains one of the more attractive backdrops for USD-strength scenarios.

The pair has held highs twice at 153.28 and that’s now a significant line in the sand. If we are going to see a USD breakout and continued rally, we’re likely going to need some help from the USD/JPY pair as the Yen plays a large role in the DXY basket, and tonight’s Bank of Japan meeting can have sway over the matter.

Above the 153.28 high, it’s the 155.00 level that looms large.

USD/JPY Daily Price Chart

Chart prepared by James Stanley; data derived from Tradingview

US Rates

Last year saw a strong jump in Treasury rates even as the Fed was cutting short-term rates. This drove the yield curve out of inversion with longer-term rates moving higher than short-term rates for the first time in a long time. In last year’s episode, the 10-year ticked just below 3.6% ahead of the Fed’s first cut in September and eventually drove all the way up to 4.8% in January.

The 10-year topped on the same day that DXY did, on January 13^th, and as recession fears took over in the US, a strong drive into Treasuries pushed rates back down.

More recently, however, and especially since the Fed began cutting rates again this year, 10-year yields have grasped on to the 4% mark, as can be seen from the weekly chart below. That 4% level was hit on the day of the Fed’s cut on September 17^th and it was hit again today, but the reaction to each has been a jump in yields.

A big part of this is inflation expectations, similar to what showed up last year. If inflation is already high and the Fed is cutting rates, foreseeably boosting future inflationary pressures even more, sitting in a Treasury note to clip a coupon at 4% seems unattractive as those higher rates of inflation will further erode returns. But this is one of those items that will need to be tracked in the days ahead, and if we do see continued jumps in yields, that can further drive USD-strength very similar to what played out in Q4 of last year.

US 10-Year Treasury Yields

Chart prepared by James Stanley; data derived from Tradingview

--- written by James Stanley, Senior Strategist