US Dollar Weekly Forecast: Federal Reserve could cut rates in May

• The USD Index (DXY) advanced further north of 104.00.
• The Federal Reserve matched consensus and left rates intact.
• Investors will now look at US inflation tracked by the PCE.
• A rate cut in May is not entirely off the table.

Throughout another notably productive week, the US Dollar (USD) successfully regained more stability, concluding its second consecutive week with gains and managing to reclaim the area beyond the 104.00 barrier when tracked by the US Dollar Index (DXY).

Simultaneously, the index managed to put further distance from the recent breakout of the critical 200-day Simple Moving Average (SMA) at 103.70, opening the door to continuation of the bullish stance for the time being.

Curiously, the weekly advance in the Greenback came on the back of some loss of momentum in the recent rally in US yields across different time frames, which seems to have gathered extra pace in the wake of the FOMC event. This move higher, instead, appears to have been largely on the back of the sharp sell-off in the Japanese Yen, which was magnified by the BoJ’s dovish hike earlier in the week.

Fed rate cut in June looks likely…but what about May?

The weekly price action around the Greenback was dominated by the FOMC event on March 20.

On the latter, the Federal Reserve (Fed) left its fed funds target range (FFTR) unchanged at 5.00%-5.25% as anticipated. In addition, the Committee increased its core Personal Consumption Expenditures (PCE) projections for 2024 to a range of 2.5-2.6%, up from the previous range of 2.4-2.5% set in December, and raised its interest rate projections for 2025 and the subsequent years.

According to the updated Dot Plot, the Committee still sees three interest rate cuts this year vs. some expectations of only two rate reductions, particularly in light of the recent bounce in inflation. While consumer prices continue to run above the Fed’s goal, the bank is confident that they will continue to drift lower and eventually reach the 2% goal.

During his press briefing, Chair Jerome Powell struck a dovish tone, commending the economy's advancement and highlighting strong consumer demand and the resurgence of supply chains. Nonetheless, elevated interest rates have impeded business investments. Despite this challenge, the labour market continues to tighten, with supply and demand showing improved alignment. Powell hinted at the possibility of rate reductions later in the year, underscoring the importance of ensuring confidence in the sustained decrease in inflation before implementing such measures.

Fast-forwarding, it could be the case of a faster drop in US inflation in the next couple of months along with further cooling of the labour market, which carries the potential to bring forward the potential start of the Fed’s easing cycle at its May 1 event.

The FedWatch Tool, operated by CME Group, substantiates the prevailing perspective, signaling that the likelihood of a 25 bps reduction in June stands at approximately 62% and nearly 15% for the month of May.

Further cautiousness is expected to kick in ahead of PCE

Investors’ attention now shifts to the publication of extra US inflation data, this time from the Personal Consumption Expenditures (PCE) at the end of next week. These readings will come along with some other key fundamentals, including another revision of Q4 GDP Growth Rate, Durable Goods Orders, the usual weekly Initial Jobless Claims and the final Michigan Consumer Sentiment gauge.

Against that backdrop, the Greenback could enter a consolidative phase, while bulls should keep targeting the  2024 YTD top of 104.97 recorded on February 14.

Central bank outlook: Interest rate trends and currency strength

When examining central banks and inflation dynamics among the G10, the Fed and the European Central Bank (ECB) are still anticipated to decrease their interest rates around the summer season along with maybe the Bank of England (BoE). Conversely, the Reserve Bank of Australia (RBA) is expected to initiate its easing cycle later in the year. Despite raising its policy rate by 10 basis points after 17 years during its March 19 meeting, the Bank of Japan (BoJ) remains an outlier.

Additionally, with the growing likelihood of monetary easing by both the ECB and the Fed occurring concurrently, the stronger position of US fundamentals is projected to uphold the Dollar's strength against its G10 counterparts, particularly the Euro, for the foreseeable future.

DXY technical outlook

The daily chart indicates an impending resistance area near the 2024 peak at 104.97, recorded on February 14. Progressing beyond this point, a minor obstacle lies at the weekly pinnacle of 106.00, marked on November 10, followed by the November high of 107.11, set on November 1.

In the opposite direction, the March low of 102.35 presents a notable support zone. Should the DXY decline further, it might approach its December low of 100.61, observed on December 28, preceding the significant 100.00 threshold and the 2023 low of 99.57 recorded on July 14.

In the broader perspective, maintaining a position above the 200-day Simple Moving Average (SMA) bodes well for a positive outlook.