As expectations of the Federal Reserve's interest rate cut receded, the US dollar index broke through the 106 mark and returned to an upward trend.
Regarding the recent trend of the US dollar, Bank of America Merrill Lynch pointed out in its latest report that the US dollar may continue to be strong in the short term, but it is facing downward pressure in the long run.
The US dollar is currently still in an upward trend. This trend is mainly driven by buying outside of US trading hours.
However, the US dollar may face weakening pressure in the second half of the year, mainly due to the current overvaluation of the US dollar and market expectations that the Fed will start cutting interest rates. Notably, this expectation presupposes no new economic or political shocks.
The Bank of America emphasized the importance of inflation in its report:
The stickiness of inflation has become the key to influencing the Fed's decisions. If inflation continues above target, it may delay the Fed's interest rate cut, thereby affecting the short-term trend of the US dollar.
Continued strength in the short term
Bank of America stated:
The market is pricing the central bank's interest rate cut too far ahead of schedule, and the “last mile” stickiness of inflation is something we are particularly concerned about. We expected the US dollar to strengthen again at the beginning of the year. As the Fed's interest rate cut was delayed, our forecast was adjusted accordingly. The pace of depreciation of the dollar may be slower than previously anticipated.
Bank of America said that from a technical analysis perspective, the US dollar is currently on an upward trend, but it needs to break through key resistance levels to confirm further growth. The Bloomberg US dollar index of 1,299 is a key target.
Looking ahead to later trends, Bank of America believes:
Unless US inflation data continues to weaken in the next few months and the market fully absorbs expectations of the Federal Reserve's interest rate cut in September, the US dollar may continue to be supported.
However, in the next 1-2 months, considering America's moderate inflation data for May and the Federal Reserve's policy guidelines, it is unlikely that the dollar will rise sharply.
The second half of the year faced downward pressure
Bank of America's benchmark forecast is that most macro factors supporting the US dollar will begin to subside in the second half of 2024. Assuming that the Federal Reserve starts cutting interest rates and there are no new shocks, the dollar is expected to fall from overvalued levels in the second half of the year:
The Federal Reserve will cut interest rates by December, which will have a negative impact on the US dollar. The current overvaluation of the US dollar will also be a factor in the weakening of the US dollar in the future.
Bank of America also mentioned that a range of risk factors, including difficult inflation, French and US elections, and geopolitical issues, may have an impact on the trend of the US dollar:
Inflation stickiness is a key factor affecting the Fed's decisions. If inflation continues above target, interest rate cuts may be delayed.
The French and US elections will bring uncertainty to the US dollar. In particular, the US election may become the focus of market attention, and it is expected to affect market sentiment starting in late August.
The market anticipates that the global economy will achieve a broad soft landing, but if there is a more serious global economic hard landing, it will have a positive impact on the US dollar.