USD Graphic Rewind: Dollar Index Posts Fresh 2011 Low; Rate Hike Spec. Drives Trade | Learn Forex | GoLearnForex.com

The dollar index touched fresh 2011 lows on Monday as speculation about tougher talk from the ECB may lead to the hiking of interest rates soon drove the euro higher. While there were certainly some dollar positives in the form of more fighting talk from Fed Dudley about combating inflation and solid US data the buck was never really able to mount any kind of recovery from early losses. Since the break lower was only marginal the potential for a reversal higher and for a double-bottom on daily charts remains possible, however, should the index move lower again today then things will look all but set to test 2010 lows below 76.00.

Central bank rhetoric is likely to be a key driver of price action in coming days and weeks, focusing mostly on the Bank of England, European Central Bank and Federal Reserve. As inflationary pressures swell in England and Europe and look like they could rear their head in the US, central bank officials will pave the way for potential rate hikes to tamp down inflationary pressures. A word of warning however to traders, speculation of this nature drove GBP gains through most of February, however, the central bank maintains its outlook that inflation will moderate and have not, thus far, taken any action. While it still looks likely that the BoE will hike rates before the ECB or Fed when exactly that will be is difficult to say, therefore, until a rate hike becomes a certainty this may be a case of ‘buy the rumour, sell the fact’ (ie lack of action). What this means for the buck is that with the Fed likely to hike last of these three key central banks and the yen and franc benefiting from safe haven flows the buck is really under immense pressure and it looks to us that further downside movement in the index is the only likely outcome.

Written by Jonathan Granby, DailyFX Research Team