Dollar's 9th month of gains signals faith in Fed remains intact

[NEW YORK] Call it a reality check.

After the Federal Reserve tempered market expectations for a mid-year interest-rate increase last week, sending the dollar to its biggest weekly decline since 2011, traders refocused on the bigger picture: the US central bank is still moving toward monetary tightening as global peers loosen policy. Fed Chair Janet Yellen said Friday she expects rates to rise this year, supporting the greenback, which gained the past two days and headed for its ninth straight monthly advance.

"The big policy story about divergence between the US and other economies is still coming through," Peter Dragicevich, a strategist at Commonwealth Bank of Australia in London, said by phone Friday. "It's really just a consolidation phase in the dollar and we should see it continue to strengthen." The Bloomberg Dollar Spot Index has advanced 1.6 per cent in March to 1,190.89 in New York, pushing its climb this year to 5.3 per cent. The nine months of gains would extend what is already the longest monthly streak in data going back to 2004.

The dollar's 2.7 per cent increase to US$1.0889 versus the euro in March would also represent a ninth consecutive month of gains, the most in the history of the shared currency. Only the yen bucked the trend, gaining 0.4 per cent to 119.13 per dollar on the month amid an increase in haven demand as Saudi-led forces battled Shiite rebels in Yemen.

"I expect that conditions may warrant an increase in the federal funds rate target sometime this year," Ms Yellen said Friday at a conference hosted by the San Francisco Fed. She and fellow policy makers "generally anticipate that a rather gradual rise in the federal funds rate will be appropriate over the next few years." The US currency's long-term advance hit headwinds on March 18, when Fed policy makers reduced forecasts for interest rates and economic growth and indicated they were in no rush for the first increase since 2006. The Fed has held its main borrowing rate at zero to 0.25 per cent since 2008 to support the economy.

Traders who had been betting on a rate hike as soon as mid- year quickly backed away. Futures prices showed a 55 per cent chance of an increase by September on March 17, the day before the Fed meeting; those odds were 36 per cent on March 27.

The dollar sold off on the Fed announcement, plummeting 2.2 per cent last week, the biggest drop since 2011, and declining early this week before paring losses. The Bloomberg Dollar Spot Index slid 0.3 per cent on the week.

"Most of the week the dollar was still under pressure - this was the aftermath of the FOMC decision," Georgette Boele, a currency strategist at ABN Amro Bank NV, said by phone from Amsterdam on Friday. Even after the slump, "investors are looking for a moment to get in, to get long dollar," and will probably buy if the greenback falls to US$1.09 to US$1.10 per euro, she said.

The shared currency has fallen against 14 of its 16 major peers this year as the European Central Bank carries out an unprecedented plan to buy 1.1 trillion euros (US$1.2 trillion) of bonds to support the economy and stave off deflation. ECB President Mario Draghi said this week he's confident the program will hit its targets in the first month of operation.

Hedge funds and other large speculators expect more weakness for the euro, with net bearish positions on it rising to a record 220,963 contracts in the week to March 24, up from 193,774 in the previous period, according to data from the Washington-based Commodity Futures Trading Commission.

The yen gained this week as the escalation of conflict in the Middle East threatened to interrupt the flow of oil, driving crude prices to US$52.48 per barrel in New York, the highest level in more than a month.

Still, Japanese data on Friday showed inflationary momentum stalled, underscoring forecasts from Pacific Investment Management Co that the nation's central bank will either maintain record monetary easing or expand it.

"It's clear that Japan will maintain its accommodative monetary policy, and tapering is not in sight, while it's also clear that the US is just about the only place where interest rates will rise," said Yunosuke Ikeda, head of currency strategy in Tokyo at Nomura Securities Co "There is no change to the basic scenario of a strong dollar."

BLOOMBERG