The dollar continued its broad-based retreat in early European trading, with traders saying institutional investors are reducing long-dollar positions amid shifting Fed expectations. The yen strengthened for a fourth consecutive session, its longest winning streak in three months, as market participants increased wagers that the Bank of Japan will signal another rate adjustment at its January 27-28 meeting. The Australian and New Zealand dollars led gains among G10 currencies, climbing alongside crude oil and industrial metals prices.
Market analysts note that Fed funds futures now imply a 70% probability of rate cuts beginning by March, according to pricing models tracked by major dealers. This marks a significant shift from early January, when odds stood below 40%. The repricing follows comments from Fed Governor Lisa Cook late Tuesday emphasizing the central bank's "data-dependent approach" and acknowledging "disinflationary forces are taking hold more broadly than anticipated." Traders say this language represents the clearest signal yet that the Fed is preparing to pivot away from its restrictive policy stance.
The yen's rally reflects growing conviction that the BOJ will exit negative interest rate policy sooner than previously expected. Japan's core inflation has remained above the central bank's 2% target for 18 consecutive months, with December's wage growth data showing the strongest annual increase since 1997. "The carry trade unwind is accelerating," said a senior foreign-exchange strategist at a major European bank in London. "We're seeing leveraged funds scrambling to cover short-yen positions as the policy divergence narrative flips." The unwinding of these positions is amplifying yen strength, creating a feedback loop that has pushed the currency through several key technical thresholds this week.
Commodity currencies are benefiting from a potent combination of dollar weakness and positive risk sentiment tied to China's 1 trillion yuan ($140 billion) infrastructure spending package announced Monday. The Australian dollar is testing its highest levels since November, while the Canadian dollar is drawing support from a 5% rally in crude oil prices over the past week. Gold has also advanced, with traders citing central bank demand and portfolio diversification flows as key drivers. Bitcoin has stabilized after last week's volatility, with crypto market participants watching for potential SEC guidance on spot ETF applications expected later this month.
Technical analysts point to a critical juncture for the dollar index, which is approaching its 200-day moving average—a level it hasn't breached on a closing basis since August. "A break below would confirm a major trend reversal," noted a chief technical strategist in New York. Looking ahead, markets are positioning for Thursday's U.S. jobless claims data and Friday's flash PMI readings, which could either validate or reverse the current dovish Fed narrative. The ECB's January meeting minutes, due Friday, will also be scrutinized for clues on the timing of potential rate cuts from Frankfurt.
Disclaimer: This analysis is AI-generated for educational purposes. Traders should verify all information and conduct their own research before making trading decisions.