MUFG’s Derek Halpenny argues that US Dollar strength is underpinned by rising US yields and a more hawkish shift from the Federal Reserve. He expects the FOMC minutes to reinforce inflation concerns and limit dovish expectations. MUFG sees scope for further USD gains as rate spreads widen and markets price additional Fed hikes.

Hawkish Fed narrative underpins Dollar

"The minutes from the FOMC meeting on 29th April will be released this evening and in all likelihood will confirm the more hawkish shift evident on the day of the meeting. The 2-year UST bond yield jumped 11bps in response to the FOMC statement and the press conference from Fed Chair Powell. With three FOMC members having dissented against the wording of the statement that suggested scope for additional rate cuts, the tone of the minutes are likely to be more on the hawkish side."

"All three members (Kashkari, Logan and Hammack) have spoken since the April meeting and made clear that a neutral bias was more appropriate given a hike could be required if inflation risks continue to rise. The April inflation data will not have eased those risks."

"If the status quo continues, yields look set to continue rising. That is likely to continue helping strengthen the dollar. As we highlighted in the FX Weekly, the US dollar / rate spread correlation looks to be strengthening and with only a little move one rate hike priced in the US there is scope for that to increase further."

"There is certainly near-term scope for the dollar to extend further stronger especially if incoming Fed Chair Warsh were the convey a more hawkish stance over the coming weeks to more closely align himself with the apparent shift from a growing number of FOMC members."

(This article was created with the help of an Artificial Intelligence tool and reviewed by an editor.)