By Vidya Ranganathan and Samuel Indyk
LONDON (Reuters) – The dollar fell and the yen hit its highest in more than a year on Monday as market participants grew more expectant of a large interest rate cut by the U.S. Federal Reserve later this week.
The dollar fell to a low of 139.58 yen, falling further from its low of 140.285 hit in late December on Friday to levels last seen in July 2023.
The Federal Reserve’s meeting on September 17-18 is the highlight of a busy week, with the Bank of England and the Bank of Japan also set to announce policy decisions on Thursday and Friday, respectively.
Comments from Fed spokespeople and data releases over the past month have shifted markets’ expectations of the size of this week’s rate cut, with debates swirling over whether the Fed will counter labor market weakness with aggressive cuts or adopt a slower, wait-and-see approach.
Futures markets were fully pricing in a quarter-point rate cut from the Fed on Wednesday, with about a 60% chance the central bank will cut rates by 50 basis points. Last week, the odds of a 50-basis-point rate cut were about 15%.
“It’s all about the Fed and the question of whether they will cut rates by 50 basis points or 25 basis points less. That’s why the dollar is weaker across the board,” said Niels Christensen, senior analyst at Nordea.
The US dollar index, which measures the currency’s value against six major currencies, fell 0.3% to 100.69.
Treasury yields have fallen in the run-up to the highly anticipated Federal Reserve meeting, especially as the chances of the Fed becoming aggressive by cutting interest rates by half a percentage point have increased.
Benchmark 10-year Treasury yields have fallen about 30 basis points in about two weeks. The two-year yield, which is more closely tied to monetary policy expectations, is at about 3.55%, down from about 3.94% two weeks ago.
Selling the dollar against the yen was the cleanest trade for investors looking to take advantage of lower Treasury yields, said Chris Weston, head of research at Australian online broker Pepperstone.
“While speculators are short and taking advantage of this decline, this trend is clearly consistent with that trend,” he said.
Investors are also awaiting the Bank of Japan’s interest rate decision on Friday, when it is expected to keep its short-term interest rate target steady at 0.25%, having already raised rates twice this year.
Bank of Japan board members have indicated they are keen to see interest rates higher, and the narrowing gap between Japan’s interest rates and other major currencies has sent the yen higher and led to the unwinding of billions of dollars of yen-funded carry trades.
“We expect higher interest rates in Japan and lower interest rates in the US, so the interest rate differential is in favour of a strong yen versus the dollar,” said Nordea’s Christensen.
The pound rose 0.4% to $1.3170, while the euro rose 0.4% to $1.1114.
The European Central Bank cut interest rates by 25 basis points last week, but bank president Christine Lagarde tempered expectations of another cut in borrowing costs next month.
European Central Bank Chief Economist Philip R. Lane and Vice President Luis de Guindos speak at Monday’s event.
The Bank of England is expected to keep its key interest rate at 5% on Thursday, after starting monetary policy easing with a 25 basis point cut in August.
Meanwhile, Bank of Canada Governor Tiff Macklem has opened the door to accelerating the pace of interest rate cuts, the Financial Times reported Sunday. After keeping the BoC’s key interest rate at 5%, its highest level in more than two decades, for a year, it has cut it by a quarter of a percentage point three times in a row since June.
The US dollar was little changed against its Canadian counterpart at 1.3579 Canadian dollars.
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