The US dollar commenced the week robustly, in sync with other traditional safe-haven currencies like the Swiss franc and yen.
Despite heightened Middle East geopolitical tensions over the weekend, their impact on the foreign exchange market has been limited. This resurgence allowed the US dollar index to recover from its Friday dip to around 106.00, falling below the previous week’s high of 107.35.
The renewed conflict in the Middle East, centred on the Gaza Strip, has chiefly impacted the oil market. Overnight, Brent crude oil prices surged from Friday’s low of USD 83.44 per barrel to reach USD 88.36 per barrel, following a substantial sell-off triggered by Brent’s peak at USD 97.69 per barrel on September 28th.
Global market participants are now closely monitoring the oil market for signs of continued price adjustments reflecting a higher geopolitical risk premium. This premium accounts for potential regional tension escalation that could disrupt global oil supply. As of now, there is no immediate impact on current global oil production, supply-demand balance, or oil inventories.
However, these developments are seen as bullish for oil prices for two key reasons. Firstly, the potential for normalized relations between Saudi Arabia and Israel has diminished, reducing the likelihood of increased Saudi oil production. Secondly, even if Israel does not immediately respond to Iran, the repercussions could impact Iran’s oil production. This might prompt the United States to tighten sanctions on Iran’s oil exports, making it the second-largest source of incremental supply in 2023.
In summary, these developments currently support the US dollar and the Canadian dollar in the short term. However, for a more significant impact on the foreign exchange market, the Middle East conflict would need to escalate further.
Before the weekend’s developments, the US dollar had been experiencing a modest correction lower, closing lower for the fourth consecutive day the previous Friday. This marked the end of an impressive streak of eleven consecutive weeks of gains for the dollar index. Even a much stronger than expected non-farm payrolls report on that Friday failed to reignite upward momentum for the US dollar. This price action suggests that the strong upward trend since mid-July is showing signs of exhaustion, especially as upward momentum measures have reached stretched levels.
The September non-farm payrolls report, released before the weekend, provided further evidence of the resilience of the US labour market. It’s now less clear that employment growth has slowed as much this year as previously thought. When considering upward revisions to prior months, employment growth has averaged 266,000 jobs per month over the last three months, roughly in line with the year-to-date average of 260,000 jobs per month. However, it’s worth noting that government sector jobs increased by 214,000 over the past three months, while private sector job growth averaged around 195,000 jobs per month in the last three months and 184,000 jobs per month in the last six months.
A reassuring aspect of the report for the Federal Reserve is the slower pace of average hourly earnings growth, which increased by only 0.2% month-on-month in September, marking the second consecutive softer monthly reading. Nevertheless, stronger employment growth keeps expectations alive for one final interest rate hike from the Federal Reserve later this year. The next critical release for the Fed ahead of its November 7th FOMC meeting is the latest US Consumer Price Index (CPI) report on Thursday. If the report indicates further evidence of slowing core inflation, it will support the outlook for the Fed to keep interest rates unchanged, potentially challenging the US dollar’s upward momentum in the upcoming week.
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