Dollar Strengthens as Stocks Decline and Oil Surge Sparks Inflation Fears

The U.S. dollar index climbed to a 1.5-week high on Monday, rising 0.28%, as weakening stock markets increased demand for the safe-haven currency. A surge in WTI crude oil prices to a 3.75-month high amplified inflation concerns, potentially prompting the Federal Reserve to tighten monetary policy. Anticipation of a 25 basis point rate hike at the upcoming FOMC meeting further bolstered the dollar. However, the greenback retreated from its peak as Treasury yields relinquished earlier gains.

Markets are pricing in a 92% probability of a 25 basis point rate increase at the Federal Open Market Committee meeting on Tuesday and Wednesday.

EUR/USD (^EURUSD) dropped to a one-month low, closing down 0.36%, as the stronger dollar pressured the euro. Rising crude oil prices to a 3.75-month high pose challenges for the Eurozone, which relies heavily on imported oil.

The euro gained some ground following hawkish remarks from ECB Executive Board member Isabel Schnabel and Governing Council member Peter Kazimir, who cautioned that further rate hikes may be necessary if inflation worsens. Additionally, the rise in the 10-year German Bund yield to a 17-year high of 3.56% enhanced the euro’s interest rate differentials.

Isabel Schnabel highlighted recent energy price developments as “quite concerning,” while Peter Kazimir noted that inflation risks are “clearly tilted to the upside,” underscoring the ECB’s readiness to tighten further if needed.

Market expectations suggest a 69% chance of a 25 basis point ECB rate hike at the October 29 policy meeting.

USD/JPY (^USDJPY) rose 0.36% on Monday, as the yen faced pressure from a stronger dollar. A downward revision in Japan’s July industrial production added to the yen’s challenges. Furthermore, a 3% spike in crude oil prices was bearish for the Japanese economy and the yen, given that Japan imports over 90% of its energy. The yen rebounded from its lowest point as Treasury yields relinquished early gains.

Japan’s July industrial production was revised to -0.2% month-over-month from the initially reported +0.1%.

The yen received partial support from last Tuesday’s comments by Japan’s health minister, who oversees the Government Pension Investment Fund (GPIF), signaling potential reassessment of asset allocations. The recent surge in the 10-year Japanese JGB yield to a 30-year high of 1.00% fueled speculation about increased GPIF purchases of domestic government bonds, bolstering the yen.

Markets anticipate a 97% likelihood of a 25 basis point BOJ rate hike at Friday’s policy meeting, aligning with the government’s desire to support the yen and curb inflation from a weak currency. Coordinated U.S.-Japan intervention and fears of further action also lend support to the yen amid ongoing weakness.

December COMEX gold (GCZ26) closed down $57.00 (-1.29%), while December COMEX silver (SIZ26) fell $1.05 (-1.61%). Both precious metals hit five-week lows as the dollar’s rally and rising inflation expectations weighed on their prices. Hawkish ECB comments and Fed rate hike prospects further dampened sentiment.

However, long positions in gold ETFs reached a 6.25-month high last Friday, and silver ETF holdings rose to a 5.5-month peak on August 25, suggesting some underlying demand. Central bank buying also remains a supportive factor, exemplified by China’s PBOC increasing its gold reserves by 650,000 ounces in August—the largest monthly gain in three years and the 22nd consecutive month of accumulation.

On the date of publication, Rich Asplund did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more details, please view the Barchart Disclosure Policy here.

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