US Dollar Pulls Back as Fed Hawkishness Loses Momentum

The US dollar pulled back from two-month highs as the probability of an October Fed rate hike slid from 72% to 45%, compounded by a decline in oil prices. The 101 level on the dollar index has served as a critical pivot for over a year — the zone where the May 2025 corrective rebound stalled and where the June–July recovery from early-2026 lows has now also plateaued. Despite the retreat, the greenback is closing September with its strongest monthly gain since June, buoyed by the Fed’s hawkish tilt and long-term Treasury yields hitting 24-year highs.

New York Fed President John Williams signalled that further policy moves are not urgent, even as he acknowledged that another rate hike will likely be needed. He leaned toward a move before year-end, which tempered dollar strength as markets recalibrated expectations. Williams is viewed as the FOMC’s centrist voice, though firmer US labour data due on Friday could swing sentiment back toward the hawks. The market has not fully abandoned an October hike, suggesting the dollar retains underlying resilience.

The pullback invited profit-taking at the top of the dollar’s range, with traders trimming positions ahead of key releases at the end of the quarter and month. Other currencies seized the opportunity: the yen climbed to two-week highs on verbal intervention and expectations of a BoJ rate hike from 1.25% to 1.5% as early as October. If the BoJ tightens while the Fed pauses, USDJPY could extend lower.

The euro remains under pressure after Christine Lagarde’s dovish surprise. Following Kevin Warsh’s logic, she noted that rising bond yields are tightening financial conditions, effectively doing the ECB’s job for it — rhetoric that previously weakened the dollar but is now dragging EURUSD toward 16-month lows just above 1.1300. GBPUSD, meanwhile, has found renewed support, though the pound remains vulnerable to a looming fiscal and energy crisis, with diesel hitting record highs and monthly implied volatility at its peak since July ahead of the budget announcement.

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