Fed rate pause bets push United States Dollar Index down towards 101.50

• A fall in September housing starts and record-low pending home sales underline US economic weakness, weighing on the US Dollar Index.
• Drone strikes in the Middle East and the Russia-Ukraine conflict have sent oil prices higher, potentially lifting inflation and expectations of rate rises.
• As longer-term market rate expectations move lower, ING says investors are questioning the "higher-for-longer" narrative.

Trading close to 101.50 during Thursday’s European session, the US Dollar Index (DXY) remains subdued for a third successive day. The index tracks the US Dollar (USD) against a basket of six major currencies.

September’s decline in housing starts and a record low in pending home sales have added to evidence of US economic weakness, leaving the Greenback under pressure. The CME FedWatch Tool shows traders assigning an 84% probability to the Fed leaving interest rates unchanged next week, alongside a 90% likelihood of an increase in December. The outlook nevertheless remains uncertain: last week, Fed Chair Kevin Warsh declined to give guidance on when further interest rate rises might occur or whether they would be needed.

Rising oil prices could nonetheless lend support to the US Dollar by stoking inflation concerns and strengthening expectations of a Federal Reserve (Fed) rate rise. Crude gained after a drone strike on Saudi Aramco’s Shaybah oil field caused two casualties, heightening tensions in the Middle East and concerns about possible disruption to energy supplies. Meanwhile, Ukraine launched extensive drone attacks on key Russian oil infrastructure this week. The strikes signalled Kyiv’s intention to hinder Moscow’s planned increase in diesel exports under a recent agreement between Presidents Trump and Putin.

Long-end repricing prompts rate markets to reconsider ‘higher for longer’

ING analysts describe a “subtle change in the rate markets” as investors reconsider their longer-term outlook. In late summer, especially September, they note that rising energy prices were closely linked to a “'higher rates forever'” narrative. That view drove the one-month USD OIS rate priced 10 years ahead to “5.17% – miles away from any neutral rate near 3.50%.” ING now regards those views as “changing,” with the latest repricing at the long end indicating that investors are beginning to question how sustainable the earlier higher-for-longer position is.