Fresh data on US inflation published on Thursday provoked strong fluctuations in global markets.
Trading on Thursday, the main US stock indexes, which were falling at the beginning of the session, ended with a significant increase.
The reversal marked the rise of the S&P 500 by more than 190 points from the low of the session to the high, which was the largest intraday jump in the index since January 24.
The day before, the US Department of Labor reported that consumer prices in the country increased by 8.2% in September compared to the same month last year. Thus, inflation slowed down from 8.3% in August, but turned out to be higher than the forecast of 8.1%.
Meanwhile, the growth of consumer prices excluding the cost of food and energy in September accelerated to 6.6% in annual terms from 6.3% in August, updating the record since 1982.
Against this background, the S&P 500 fell by about 2.4% from the levels of the previous close, sinking at the moment to the area of 3490 points.
However, then the index showed a powerful rebound and rose to 3,680 points during the session.
In the end, the S&P 500 rose 2.6% to 3,669.91 points.
"Initially, traders perceived the latest inflation data as another step towards Armageddon, but then they took a step back and decided that to a large extent all this was already embedded in the quotes," B. Riley Wealth Management specialists noted.
The main factor contributing to the rally in the US stock market could be profit taking on short positions in stocks. Before the inflation data, the market positioning was quite bearish, and the S&P 500 index closed in the red for six consecutive sessions.
Bears on the stock market seem to have caused a rebound in stocks by covering shorts, which, in turn, led to a decline in the dollar, Bank of Singapore strategists say.
"It turns out that the foreign exchange market was guided by the stock market," they said.
After the release of September inflation data in the US, the greenback updated two-week highs, rising above 113.70 points.
However, amid the return of the main Wall Street indices to the green zone, the USD collapsed to 112.00 before slightly reducing losses.
The greenback ended Thursday's session with a decrease of 0.5%, finishing around 112.40 points.
The dollar reversed its recent decline on Friday, returning to the area above 113.00.
MUFG Bank believes that the recent USD sell-off is most likely a temporary correction.
"At this stage, we believe that the recent dollar sell-off is more of an unusual anomaly than a sign of any turning point. The scale of the USD strengthening is becoming excessive, but we maintain our bullish mood on the US currency, which we expect to continue in the coming months," the bank's analysts said.
"News from China about the extension of lockdowns increases the likelihood of maintaining difficult growth prospects for the global economy, which supports the resumption of dollar strengthening," they added.
Even after taking some profits, macro fund traders continue to hold long positions on the dollar against various currencies, including the euro, notes Kieran Calder from UBP.
"I'm very optimistic about the dollar," said Lee Robinson, founder of Altana Wealth.
According to him, the greenback will continue to strengthen until something goes wrong, and the Federal Reserve will not have to retreat.
Since the fundamental conditions for strengthening the greenback remain, the strategy of buying USD on declines is likely to remain popular in the near future.
Meanwhile, any rebound in the US stock market can be a great opportunity to go into shorts on stocks and expect the development of a bearish trend.
The main scenario for the S&P 500 index remains a retreat to the area of 3200 points. It will be possible to talk about the cancellation of this scenario only when the index reaches above 3800 points.
On Friday, the key Wall Street indicators failed to stay in the green zone and moved to a decline. In particular, the S&P 500 was losing about 2%.
Investors still fear that the continued tightening of the Fed's monetary policy creates recession risks, and also leads to a deterioration in the performance of companies.
Experts doubt that the corporate reporting season starting on Friday will cause a positive reaction from the US stock market.
According to some estimates, the profits of American companies whose shares are included in the calculation of the S&P 500, on average, increased by 2.4% in the third quarter. For comparison: back in early July, an increase of 9.8% was expected. These are the weakest results since the third quarter of 2020, which was the peak of the COVID-19 pandemic.
Even if the upcoming reporting season helps S&P show a short-term recovery, it is unlikely to last long.
The main problem for the market until the end of this year and probably during the first half of next year will remain the trajectory of the Fed's monetary policy. The reduction of the central bank's balance sheet amid tightening financial conditions has become the central theme of 2022 and will remain so, at least during the first quarter of 2023.
Citigroup strategists point out that the growth of the dollar correlates very positively with changes in the balance of the Fed.
According to them, if this correlation persists and quantitative tightening in the US continues at the current pace, the fall of the euro against the dollar will be dramatic.
The EUR/USD pair has been in a bearish trend channel since February, according to KBC Bank economists, who expect that the world's most popular currency pair will remain under pressure.
"The dollar remains the main beneficiary of the increase in the yield of treasuries in conditions of constant flight from risks. Geopolitical and recessionary threats are now more relevant for Europe than for the United States, which constrains the single currency, even when the ECB has finally moved to a tightening cycle," they said.
"The important resistance for EUR/USD is located at the level of 0.9950-1.0050, and the key support is at a low since the beginning of the year near the level of 0.9536," KBC Bank added.
The proximity of the military conflict in Ukraine to Europe, as well as concerns about a serious economic downturn in the region, encourage investors to abandon European assets in favor of dollar-denominated transactions, which are seen as a safer haven.
Citigroup analysts believe that even the Fed's decision to slow down the rate hike may not be enough to convince most traders to sell USD. In their opinion, improving the prospects for global economic growth remains key, as this has been the main driving force behind past dollar reversals, especially in the last two decades.
"The top of the dollar is likely to be reached only when the Fed starts cutting rates, and the global economic cycle outside the United States reaches the bottom," Citigroup said.
"Since the Fed's feedback function increases the risks of excessive tightening, we now expect the central bank to cut the key rate by 75 basis points at the last three meetings of 2023," Barclays analysts said.
Traders estimate a smaller rate cut of 30 basis points by the end of 2023, as evidenced by futures contracts traded on CME.
Until then, the US currency remains the safest haven, especially because it offers a premium to profitability compared to its global counterparts, Citigroup analysts believe.
At the end of the week, the EUR/USD pair lost most of its recent advance to the area just above the 0.9800 mark.
The continuation of the pullback seems to be just around the corner, and in the short term, the pair may challenge the two-week low at 0.9630 (from October 13).
On the long-term horizon, the bearish view of the pair will remain unchanged as long as it trades below the 200-day moving average at 1.0575.
"Given that the core consumer price index for the month did not show any weakening of momentum, the conclusion is pretty clear: The Fed should continue to raise the rate by 75 bps, and the dollar remains the best in its class. There is no alternative to the greenback, especially in the context of the G10 balance of payments crisis," TD Securities strategists believe.
If USD significantly moves forward and overcomes the 114.00 mark, then the next target of dollar bulls will be the 2002 high at 114.78 (from September 28) on the way to the round level of 115.00.
The prospects for additional growth of the greenback remain in force as long as it is trading above the eight-month support line passing around 107.90.
The greenback is expected to remain constructive in the long term as long as it remains above the 200-day moving average at 103.25.