US Dollar Index (DXY) trims losses as US midterm election fallout subsides

• Thursday sees the US Dollar Index (DXY) recover some ground as markets digest the US midterm election results.
• A robust labour market and firm services and manufacturing activity in the latest US figures lend support to the dollar.
• Confidence in a December Fed rate rise persists, giving investors another reason to avoid sizeable US Dollar short positions.

This week’s robust US economic releases have reinforced the case for another Federal Reserve (Fed) interest rate rise in December, helping the US Dollar (USD) recover earlier losses on Thursday. Investors are turning their attention from the US midterm election results towards those figures. At the time of writing, the US Dollar Index (DXY) stands at 101.50, virtually unchanged on the day, having rebounded from lows of 101.20 in the Asian session.

Although the latest US figures point to continued economic strength and help cushion the dollar against declines, a modest appetite for risk continues to constrain any substantial recovery. The recent fall in oil prices and retreat in US Treasury yields form the backdrop to that risk appetite.

US employment figures exceed forecasts as manufacturing and services remain firm

October’s ADP Employment report recorded a net increase of 86K jobs, above the market forecast of 69K. Meanwhile, the US ISM Services Purchasing Managers’ Index eased to 54.5 in October from September’s 54.9. Despite that modest slowdown, the reading remained consistent with solid activity in the sector, while the employment sub-index rose and inflation held at elevated levels. Monday’s ISM Manufacturing PMI painted a comparable picture. Taken together, the releases suggest that the US economy entered the fourth quarter at a strong pace.

With that economic backdrop, expectations of a December Fed rate increase remain strong: CME’s FedWatch Tool puts the probability of a quarter-point rise next month at 81%. Friday’s Nonfarm Payrolls (NFP) report remains in focus, although only a disastrous reading would change that assessment.

Some of the world’s leading commercial banks take a similar view. Citing fundamentals that remain solid, MUFG analysts say they “would not interpret the post-election fall in US yields and the dollar as the beginning of a broad USD sell-off yet,”. MUFG draws particular attention to the fact that “US private payrolls rose by 86k in October, beating the 67k consensus and reinforcing signs of resilient labour demand following Tuesday’s stronger JOLTS print,” suggesting that the dollar’s underlying support remains intact for now.

ING experts likewise see limited room for a more pronounced dollar decline. In their view, “a still-resilient US economy and at least one more rate hike from the Federal Reserve” are likely to “limit a larger dollar correction.”