US Dollar Gaining In Risk-Off Environment, But For How Long?

Fundamental Forecast for USDOLLAR Index: Neutral

- Risk sentiment continues to deteriorate broadly across asset classes, playing favorably into safe haven currencies’ hands, like the US Dollar.

- EUR/USD’s reaction to the seemingly blowout December US NFP report indicates some degree of skepticism by the market over the headline figure – possibly due to seasonality.

– As volatility increases across FX markets, it’s a good time for traders to reacquaint themselves with risk management principles.

On balance, the USDOLLAR Index finished the week higher, although the underperformance of the Australian Dollar and the British Pound may be masking growing concerns under the surface for the greenback. With the FOMC on Wednesday making clear that its rate hike path will be gradual and data dependent, all focus for risk assets and the US Dollar alike was on the December US labor market release on Friday.

Over the past week, it was clear the switch flipped back into the “good news is bad news” world again. In a sense, upon further view and consideration, it seems this print may have been a December US NFP report in that context.

Why was this print both superficially good and intrinsically bad for the US Dollar? On one hand, the initial reaction was easily explained: the overtly strong headline number (+292K) will likely be cited by FOMC members as a reason to maintain their belief that the Fed will hike rates four times in 2016. In the “what’s good data is bad news” world, any indication that the Fed could tighten policy faster than currently expected – only two rate hikes are priced in for this year (per Fed funds futures) – against a rapidly deteriorating risk sentiment and an increasingly negative geopolitical news have proved to be a bad mix for higher yielding currencies and risk-correlated assets.