Dollar s consolidative days numbered

The dollar’s laborious consolidative days seem to be numbered from both the technical and fundamental points of view. More on the technicals later, but from a fundamental perspective, this makes sense as not only do we have the latest US inflation data coming up later on today, but the much-anticipated Federal Reserve rate announcement on Wednesday is now just around the corner, too. Against a backdrop of deteriorating data, the Fed is unlikely to raise interest rates and a potentially soft reading on the Consumer Price Index (CPI) today could deliver the final nail.

However, that does not necessarily mean the dollar will fall off a cliff in the coming days. After all, central banks elsewhere are even more dovish than the Fed. What’s more, with the probability of the Fed tightening in September having fallen sharply in recent times, the market is probably no longer positioned for a rate rise. Thus, in the event that the Fed remains on hold, the dollar could suck the sellers in with a short-term sell-off before squeezing them with an ever sharper rally. Obviously, the key risk here is that the Fed delivers a surprise rate increase or at the very least hints strongly at the prospects of a rate rise before the end of the year. In this potential scenario, the dollar would almost certainly stage a vicious rally.

As far as today’s inflation data is concerned, headline CPI is seen rising 0.1% month-over-month in August. On a year-over-year basis, CPI is expected to print 1.0% which would be up from 0.8% recorded in July. Core CPI, which excludes the volatile food and energy prices, is expected to come in at +0.2% month-over-month and +2.2% year-over-year, unchanged from July.

Of course, from a trading perspective it is not always about the data or what the Fed may do that will be important, but how the markets will react to the news. The reaction of the market will probably set the tone for the days and possibly weeks to come, regardless of the outcome of today’s CPI data and the action of the Fed next week.

Indeed, traders seem to be taking no chances in trying to pre-empt the Fed’s next move, at least judging by the price action of the dollar against a basket of foreign currencies. As can be seen from the chart, below, the Dollar Index has been consolidating in narrow range ranges throughout the summer months. As the gap between the converging trend lines narrow, we get closer and closer to a potential breakout or breakdown in the dollar. But do watch out for false moves, especially around the key levels such as 94.10 and 93.50 on the downside or 96.20 and 97.00 on the upside. One way or another, the dollar could make a decisive move soon which should be good news for trend followers.