Dollar hits five-month low amid rate cut expectations in year-end trading

The US Dollar dipped to a five-month low on Wednesday, while the euro reached a more than four-month high, fueled by expectations of a potential Federal Reserve interest rate cut. However, thin year-end trading flows limited significant market movements, with many traders on holiday until the New Year.

The Dollar index, measuring the US currency against six others, fell to 101.36, marking its lowest level since July 28. It is on track for a 2 per cent decline in 2023, following two years of robust gains driven by anticipated Fed rate hikes and subsequent increases to combat inflation.

Jens Magnusson, Chief Economist at SEB, noted, "Overall, from a global perspective, I expect markets to remain quiet. We still have strong equity markets, and that is likely to hold through to New Year. If nothing happens geopolitically, then currency markets will stay fairly calm over the next few days."

The recent weakness in the Dollar is attributed to markets anticipating Fed rate cuts in the coming year, diminishing the currency's appeal. The Dollar index is set to register a second consecutive month of losses.

Markets are currently pricing in an 85 per cent chance of a rate cut beginning in March 2024, according to the CME FedWatch tool, with over 150 basis points of cuts priced in for the next year. US data indicating a slowdown in inflation has bolstered expectations of rate easing in 2024.

Christopher Wong, a currency strategist at OCBC in Singapore, commented, "Disinflation is proving entrenched, and expectations are for central banks to pivot next year while growth is still trudging along. This paints a goldilocks market that is favorable for risk proxies," such as equities and higher-risk currencies.

Meanwhile, the Euro rose almost 0.2 per cent to $1.1061, reaching a more than four-month high. The single currency is up over 3 per cent for the year and is on course for a third consecutive month of gains.

SEB's Magnusson stated, "Overall, as long as the soft landing narrative is alive and well and there's healthy risk appetite, then I think people will be looking more towards the euro rather than the Dollar."

In Asia, the Japanese Yen weakened 0.1 per cent to 142.55 per Dollar, heading for an 8 per cent drop in the year. However, the currency has displayed recent strength amid expectations that the Bank of Japan will exit its ultra-loose policy.

BOJ Governor Kazuo Ueda indicated on Wednesday that there was no rush to unwind the central bank's ultra-loose monetary policy, citing a small risk of inflation running well above 2 per cent. A summary of opinions from the BOJ's Dec. 18-19 meeting showed a need to maintain policy for now, with some calling for a deeper debate on a future exit from massive stimulus.

The Australian Dollar and the New Zealand Dollar both touched more than five-month peaks earlier in the session, with the Aussie last bought at $0.6838, and the kiwi at $0.6328.

In emerging markets, Turkey's Lira weakened to a record low of 29.4 per Dollar, marking a 36 per cent loss for the year.

(With Reuters inputs.)