Market Sentiment Shifts as US Economic Resilience Underpins Currency Moves

The currency markets remain captive to competing narratives this week. The Dollar Index (DXY) climbed 0.09%, benefiting from stronger-than-anticipated US economic releases and elevated Treasury yields. However, the gains reveal underlying fragility—questions about Federal Reserve independence are capping dollar upside after President Trump’s latest remarks about Fed Chair Powell’s future.

Economic Data Fuels Mixed Signals

The surprise strength in US housing data and manufacturing activity provided initial support. October’s S&P CaseShiller composite-20 home price index delivered a 0.3% monthly increase (versus 0.1% expected) and 1.3% annual growth (against 1.1% forecasts). Similarly, December’s MNI Chicago PMI rebounded sharply to 43.5, a 9.2-point jump from prior levels and well above the anticipated 40.0 reading.

These hawkish economic indicators would typically bolster the dollar. Yet market pricing reveals skepticism: traders are assigning only a 16% probability to a -25 basis point rate cut at January’s FOMC meeting, suggesting confidence in economic resilience is incomplete.

The Dovish Wild Card

The real headwind facing the dollar emerges from Washington. Trump’s suggestion that he may appoint a dovish Fed Chair—with National Economic Council Director Kevin Hassett reportedly the frontrunner—threatens dollar momentum. A dovish-leaning Fed Chair would signal easier monetary policy ahead, undercutting the currency’s appeal. Compounding this, the FOMC’s December announcement of $40 billion monthly T-bill purchases injects liquidity into the financial system, typically weighing on the dollar when combined with dovish policy expectations.

Expectations now price in roughly -50 basis points of FOMC cuts throughout 2026, a stark contrast to hawkish outlooks from peers. The BOJ, by comparison, is expected to add +25 basis points over the same period, while the ECB appears unlikely to shift rates materially.

Currency Pair Reactions

EUR/USD retreated 0.13%, though the euro’s losses faced constraints from Spain’s core inflation surprise. Spanish December core CPI printed at 2.6% year-over-year, above the 2.5% consensus—a hawkish signal for ECB policy continuity. This offset some dollar strength and limited euro weakness, with markets pricing minimal odds of ECB hikes at February’s meeting.

USD/JPY advanced 0.19% as the yen faced dual pressure from a stronger dollar and elevated T-note yields. The December BOJ meeting’s commentary suggesting Japan’s real interest rates remain accommodative offered only modest support; traders see just a 1% chance of a rate hike at January’s gathering.

Safe-Haven Demand Lifts Precious Metals

Gold and silver rallied sharply on dovish-policy anxieties. February COMEX gold surged +37.90 (+0.87%), while March COMEX silver climbed +4.51 (+6.40%), recovering from Monday’s losses. Uncertainty over Fed independence and concerns about easier monetary policy in 2026 drove safe-haven bidding.

Geopolitical tensions compound support. US blockades of Venezuelan-connected oil tankers and recent military operations in Nigeria underscore persistent regional risks. Meanwhile, central bank demand remains robust—China’s PBOC reserves climbed by +30,000 ounces to 74.1 million troy ounces in November, marking thirteen consecutive months of accumulation. Global central banks collectively purchased 220 MT in Q3, up +28% from the prior quarter.

Fund positioning reinforces the rally: gold ETF long holdings reached a 3.25-year high Monday, while silver ETF longs hit a 3.5-year high the prior Tuesday.

The Broader Implication

Markets are pricing in a dovish 2026, where the Fed eases while other central banks hold or tighten. This dynamic—a hawkish policy divergence favoring foreign currencies against a dovish dollar outlook—creates a conflicting backdrop for traders. Economic data may improve, yet if dovish Fed leadership emerges, the dollar’s near-term ceiling may prove limited. Safe-haven assets, meanwhile, benefit from the uncertainty itself.