US Dollar Forecast: EUR/USD Falls as U.S. Retail Sales Beat Expectations

U.S. Dollar Edges Higher on Strong Retail Sales, Fed Rate Cut in Focus

The U.S. Dollar rose modestly on Tuesday, recovering from a four-day decline, as stronger-than-expected U.S. retail sales and steady Treasury yields helped support the greenback. Traders are positioning ahead of the Federal Reserve’s policy decision on Wednesday, where markets are divided over the size of the expected interest rate cut.

At 13:03 GMT, the U.S. Dollar Index is trading 100.821, up 0.114 or +0.11%. This is up from an intraday low of 100.567.

Retail Sales Beat Expectations, Provide Dollar Support

U.S. retail sales for August came in at 0.1%, surpassing expectations of a 0.2% decline, bolstering the dollar’s performance. This data indicates continued resilience in consumer spending, even as higher interest rates weigh on economic activity. While the retail sales report provided a short-term lift to the dollar, the broader trend has been downward over the past week, driven by market uncertainty surrounding the Fed’s next move.

Fed Rate Cut Uncertainty Driving Caution

Traders are focused on the outcome of the Federal Reserve’s two-day meeting, which concludes Wednesday. The market expects the central bank to cut rates for the first time since it began raising them in March 2022. CME Group’s FedWatch tool shows a 65% probability of a 50-basis-point cut, while others anticipate a smaller, 25-basis-point reduction. The key question for the market is whether the Fed will signal further cuts in 2024, with two additional meetings left this year.

Short-Covering Rally Possible if Fed Opts for 25bp Cut

While the market is pricing in a higher probability of a larger rate cut, economists and analysts are more conservative. A recent CNBC survey indicated that 84% of respondents expect the Fed to cut by just 25 basis points. If the Fed follows this path, the dollar could experience a short-covering rally as traders close out positions betting on a more aggressive cut. Conversely, a 50-basis-point cut could increase the likelihood of further dollar weakness, as it would signal a more dovish stance and pressure Treasury yields lower.

Euro and Gold React as Dollar Rebounds

The euro edged lower as the dollar rebounded, reversing some of its recent gains.

Gold prices also eased after hitting record highs earlier in the week, as traders adjusted their positions ahead of the Fed decision. Any unexpected moves from the Fed could cause further volatility in both the currency and commodities markets.

Market Forecast: Dollar Vulnerable to Further Declines

Despite the short-term bounce fueled by strong retail sales and position squaring, the U.S. Dollar remains vulnerable to further declines. If the Federal Reserve delivers a 50-basis-point rate cut, the dollar could weaken as interest rate differentials narrow and investors brace for more easing. However, if the Fed opts for a 25-basis-point cut, we could see a short-term rally driven by short-covering, as traders readjust their positions. In either scenario, volatility is likely, and traders should watch for further guidance from the Fed regarding its 2024 policy outlook.