US dollar perks up as traders reduce bets on larger Fed rate cut

The dollar snapped back against the yen and other major currencies on Monday after losses last week, as investors looked ahead to key U.S. inflation data and reduced expectations for an outsized Federal Reserve interest rate cut next week.

The greenback rose for the first time in five sessions versus the Japanese currency, while rising for a second straight day against the euro.

U.S. rate futures have fully priced in a 25-basis-point rate cut at the Fed's Sept. 17-18 policy meeting, with a roughly 29% chance of a bigger, half-percentage-point move, according to LSEG calculations. On Friday, pricing for the bigger cut rose as high as 50%.

For 2024, traders expect 113 bps of easing, up from around 100 bps.

"I think the Fed is going to cut by 25 (basis points) next week. There could be a jumbo rate move of 50 in November depending on the inflation data that comes out. But the latest information on growth shows the economy is doing okay: it's definitely slowing and moderating," said Amo Sahota, executive director at Klarity FX in San Francisco.

"It would be too harsh to say that the economy is collapsing, or in recession ... Is the Fed behind the curve? Potentially yes, but they can get there if they do a series of 25-basis-point moves. At some point a 50-basis-point cut would help the Fed get ahead of the curve."

In afternoon trading, the dollar was up 0.4% at 142.84 yen . The recovery on Monday was a welcome respite for the dollar after a rough month so far. In September, the dollar has lost 2.1%. Last week, the U.S. currency fell 2.7% versus the yen.

Against the euro, the dollar advanced, with the single European currency falling 0.4% to $1.1041. The euro's fall pushed the dollar index, a gauge of the greenback's value against six major peers, up 0.4% at 101.56.

INFLATION DATA

The attention is now on the release on Wednesday of the U.S. consumer price index (CPI) report even though the Fed has made it clear employment has become more of a focus than inflation. The headline CPI is expected to have risen 0.2% on a month-on-month basis in August, according to a Reuters poll, unchanged from the previous month.

But on a year-on-year basis it is forecast to have gained 2.6%, down from 2.9% in July.

The release on Friday of the U.S. jobs report for August did not offer clarity on the question of whether the Fed would deliver a regular 25-basis-point or an outsized 50-basis-point rate cut next week.

Fed policymakers on Friday signalled they are ready to kick off a series of rate cuts, noting a cooling in the labor market that could accelerate into something more worrying in the absence of lower borrowing costs.

The European Central Bank, on the other hand, will meet on Thursday and is widely expected to cut its main interest rate by 25 bps to 3.50%, having kicked off its rate-cutting cycle in June with a quarter-percentage-point easing.

Traders have priced in a 48% chance of a similar move in December, according to LSEG calculations.

In other currency pairs, the dollar gained 0.6% against the Swiss franc to 0.8482 francs. It touched an eight-month low versus the franc on Friday.

The British pound fell to more than a two-week low of $1.3068 ahead of a slew of economic data this week that could shape expectations around the Bank of England's policy moves this year. Sterling was last down 0.4% at $1.3075.