The U.S. dollar remained strong on Tuesday as investors positioned themselves for the possibility of Federal Reserve interest rate hikes, while the Japanese yen hovered dangerously close to a level not seen since 1986.
U.S. Treasury yields stayed high following a surge on Monday, with yields on 2-year notes — which are particularly sensitive to interest rate changes — sitting near a 16-month peak. Traders are increasingly expecting the Fed to raise rates before the year is out.
Market futures are currently pricing in a 75% chance of a rate hike by September. Both BofA Global Research and Deutsche Bank have scrapped their earlier predictions of no policy change and now forecast the Fed will increase rates this year, pointing to the economy’s continued strength.
“The dollar is holding firm on rising yields and hawkish Fed bets,” said Sim Moh Siong, an FX strategist at OCBC, adding that limited guidance from the Fed has been stoking market volatility. He noted that his bank now expects a modestly stronger dollar given the growing likelihood of tighter U.S. monetary policy, walking back a previous forecast that the currency would trade in a narrow range.
Siong also said the dollar index — which tracks the greenback against six other major currencies — could gain an additional 2% to 3% if it clearly breaks above the 14-month high of 101.97. The index was trading slightly higher at 101.01 on Tuesday, just below last week’s one-year peak of 101.13.
Oil prices also lent support to the dollar on Tuesday, rebounding after a steep decline the day before. The previous session’s drop came amid signs of progress in U.S.-Iran diplomatic talks, but investors are waiting for clearer confirmation that crude oil flows through the Strait of Hormuz will actually be restored before making further moves.
The euro was last changing hands at $1.1423, near a three-month low, after European Central Bank President Christine Lagarde downplayed concerns about a second wave of inflation. The British pound traded at $1.3246, largely stabilizing after Prime Minister Keir Starmer stepped down and set the stage for an orderly handover of power.
The Australian and New Zealand dollars each slipped about 0.1%, trading at $0.6991 and $0.5704, respectively.
Yen Teeters at Four-Decade Low
The Japanese yen was last trading at 161.59 after briefly sliding to a two-year low of 161.93 late Monday as the dollar extended its broad advance. A move above 161.96 would push the yen to its weakest point since 1986.
Japanese Finance Minister Satsuki Katayama held a virtual meeting with U.S. Treasury Secretary Scott Bessent late Monday, according to a source who spoke with Reuters, as anxiety grows over dramatic swings in the currency’s value. The discussion centered on how to respond to the yen’s historic weakness, with currency intervention among the options potentially on the table.
Japanese financial officials have kept markets guessing about whether they plan to intervene, with the absence of clear signals pointing to a possible change in how authorities are communicating their intentions.
“The market is now watching closely for signs that Japanese authorities will step in to defend the 161.95 level in the sessions ahead,” wrote Tony Sycamore, a market analyst at IG. “We think they are likely to intervene and try and hold the line at least temporarily,” he added, though he cautioned that any such action would probably not produce a long-lasting effect.
