US Dollar powers through as ISM fuels Greenback rally on Wednesday

The US Dollar prints a kneejerk reaction on Wednesday as ISM delivers impressive numbers.
Surprise comments from ECB member Knot triggered a surge in EUR.
The US Dollar Index fades just ahead of nearly reaching 105.00 and could head lower in search of support.

The US Dollar (USD) is throwing traders all over the place on Wednesday. Where the Greenback was trading subdued in the morning during European trading hours, the Euro was the talk of the town. That shift in sentiment came on the back of hawkish comments from two European Central Bank members that underlined that markets are not pricing in the possibility of yet another hike in September, which saw a jacked-up Euro valuation briefly.

Fast forward to 14:00 GMT where the world flippep upside down and the Euro headed to a three-month-low and the US Dollarindex printed a new six-month high. Cathalyst for this sudden shift were the numbers from the Insitute for Supply Management (ISM). All numbers, and aspecially the Purchase Manager Index (PMI) headed higher from 52.7 to 54.5, where a small drop to 52.5 was expected.

Daily digest: US Dollar pushes on the gas pedal

Next to ECB member Klaas Knot, his fellow member Peter Kazimir has commented that a September rate hike is more preferable than a later one.
The US government is ready to escalate a trade dispute with Mexico, and has asked energy firms to prepare affidavits detailing how Mexico has been actively blocking investments.
The Mortgage Bankers Association (MBA) has issued its Mortgage Applications for the first week of September at 11:00 GMT. Previous print was 2.3% and the first week of September saw a decline of -2.9%.
US Trade Balance numbers for July came in tighter as expected with the Goods and Services Trade Balance for July heading from $-63.7 billion to $-65 billion. This is a touch tighter from the expected $-65.8 billion projected.
At 13:45, the final reading from the S&P Global Composite and Services PMI for August was released. As expected, no real gamechangers here with levels a touch softer, heading from 51.0 to 50.5 for the Services PMI. The Composite PMI went from 50.4 to 50.2.
The most important data point for Wednesday was the publication of New Orders and Services PMI numbers from the Institute for Supply Management (ISM) at 14:00 GMT, and it proved to be a gamechanger. The headline Services PMI went from 52.7 to 54.5, above the expected 52.5. Priced Paid went from 56.8 to 58.9 and the New Orders rallied from 55 to 57.5. The Employment Index component jumped from 50.7 to 54.7, triggering a batch of US Dollar strenght, erasing earlier gains, and pushing the US Dollarindex to a new six-month high.
Some US Federal Reserve members took the stage as well. Federal Reserve Bank of Boston President Susan Collins will speak at 14:30, while Dallas Fed President Lorie Logan will also speak at 19:00.
Equities are mixed and all over the place with mainly European and US indices in the red.
The CME Group FedWatch Tool shows that markets are pricing in a 93% chance that the Federal Reserve will keep interest rates unchanged at its meeting in September.
The benchmark 10-year US Treasury bond yield trades at 4.26% and keeps heading higher after the US Treasury issued quite a lot of debt paper on Tuesday. The auctions flooded the markets with supply and saw yields ramping up.

US Dollar Index technical analysis: ISM makes DXY lit

The US Dollar Index (DXY) broke lower after some surprise comments from ECB member Klaas Knot which made markets price in again a 50% chance of a rate hike in September, despite the contracting PMI numbers throughout Europe. The Greenback got outpaced by the Euro and saw several other currencies going along for the ride, forcing the DXY to take a small step back. Though, the US Dollar is always full of suprises and finished higher against the Euro near the European closing bell.

All eyes are on 105.00 after the DXY nearly reached this level on Tuesday. So only a few cents to go and the DXY will be at a new yearly high for the second time this week. Next levels are at 105.23, the high of March 2022, which would make an 18-month high. If the index reaches this last level, some resistance might kick in.

On the downside, the 104.30 figure is vital to keep the US Dollar Index sustained at these elevated levels. Some room lower, the 200-day Simple Moving Average (SMA) at 103.06 comes into play, which could bring substantially more weakness once the DXY starts trading below it. The double belt of support at 102.42, with both the 100-day and the 55-day SMA, are the last lines of defence before the US Dollar sees substantial and longer-term depreciation.

Central banks FAQs

What does a central bank do?

Central Banks have a key mandate which is making sure that there is price stability in a country or region. Economies are constantly facing inflation or deflation when prices for certain goods and services are fluctuating. Constant rising prices for the same goods means inflation, constant lowered prices for the same goods means deflation. It is the task of the central bank to keep the demand in line by tweaking its policy rate. For the biggest central banks like the US Federal Reserve (Fed), the European Central Bank (ECB) or the Bank of England (BoE), the mandate is to keep inflation close to 2%.

What does a central bank do when inflation undershoots or overshoots its projected target?

A central bank has one important tool at its disposal to get inflation higher or lower, and that is by tweaking its benchmark policy rate, commonly known as interest rate. On pre-communicated moments, the central bank will issue a statement with its policy rate and provide additional reasoning on why it is either remaining or changing (cutting or hiking) it. Local banks will adjust their savings and lending rates accordingly, which in turn will make it either harder or easier for people to earn on their savings or for companies to take out loans and make investments in their businesses. When the central bank hikes interest rates substantially, this is called monetary tightening. When it is cutting its benchmark rate, it is called monetary easing.

Who decides on monetary policy and interest rates?

A central bank is often politically independent. Members of the central bank policy board are passing through a series of panels and hearings before being appointed to a policy board seat. Each member in that board often has a certain conviction on how the central bank should control inflation and the subsequent monetary policy. Members that want a very loose monetary policy, with low rates and cheap lending, to boost the economy substantially while being content to see inflation slightly above 2%, are called ‘doves’. Members that rather want to see higher rates to reward savings and want to keep a lit on inflation at all time are called ‘hawks’ and will not rest until inflation is at or just below 2%.

Is there a president or head of a central bank?

Normally, there is a chairman or president who leads each meeting, needs to create a consensus between the hawks or doves and has his or her final say when it would come down to a vote split to avoid a 50-50 tie on whether the current policy should be adjusted. The chairman will deliver speeches which often can be followed live, where the current monetary stance and outlook is being communicated. A central bank will try to push forward its monetary policy without triggering violent swings in rates, equities, or its currency. All members of the central bank will channel their stance toward the markets in advance of a policy meeting event. A few days before a policy meeting takes place until the new policy has been communicated, members are forbidden to talk publicly. This is called the blackout period.

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