The US dollar sees its biggest drop in two weeks; analysts say this round of rally may have peaked

According to Zhihu Finance APP, after the Federal Reserve maintained interest rates unchanged for the fifth consecutive time, the market lowered its expectations for a rate hike in September, and the US dollar recorded its largest decline in two weeks on Wednesday. Although three officials within the Federal Open Market Committee (FOMC) voted in favor of a hike, the market believes that Federal Reserve Chair Walsh regards the recent rise in US Treasury yields as part of monetary policy tightening, easing short-term rate hike expectations.

Following the Fed's interest rate decision, the Bloomberg Dollar Spot Index fell by about 0.3%, marking the largest single-day drop since July 15, and also the weakest dollar performance following the Fed's decision to hold rates in nearly two years. The dollar weakened against most major currencies, with the Norwegian krone rising by about 0.8%. In addition to the dollar's weakness, renewed tensions in the Middle East led to a rise in international oil prices, also providing support for oil-producing country currencies.

Market movements intensified after Walsh's press conference. Walsh stated that since the last rate meeting, US Treasury yields have risen significantly, meaning that financial markets have essentially already accomplished part of the tightening effect that would otherwise require the Fed to raise rates. This statement was interpreted by the market as reducing the urgency for the Fed to further hike rates in the short term.

Nomura Securities London-based FX strategist Yusuke Miyairi noted that Walsh essentially sees the recent rise in US treasury yields as a substitute for rate hikes, which is dampening expectations for further tightening and placing pressure on the dollar.

Interest rate derivatives markets also reflected the changed expectations. Before the meeting, amid surging energy prices due to the Iran war, traders generally saw about a one-third chance of a rate hike at this meeting, while by Tuesday's close, the market had nearly fully priced in a September hike. After the decision, expectations for a September hike dropped to just above 50%, with the market now expecting the Fed to finish its current tightening cycle by December.

However, hawkish signals from within the Federal Reserve still drew market attention. In this meeting, three regional Fed presidents voted in favor of a 25 basis point hike. Still, the FOMC ultimately decided by a 9-3 vote to keep the federal funds rate target range unchanged at 3.5%–3.75%, reiterating in the statement its commitment to achieving price stability.

JPMorgan Asset Management CIO and Global Head of Fixed Income Bob Michele noted that compared to the decision to hold rates, the three dissenting votes are more worthy of market attention. They indicate an increasing shift within the Fed towards supporting further policy tightening, suggesting future hike pressures may persist.

Bianco Research President Jim Bianco also believes that the three dissenting opinions were the most important message from this meeting. With Walsh providing less forward guidance and downplaying future policy path hints, the press conference reflected more of the chair's personal views, rather than the FOMC’s full consensus—thus, the committee's voting results better reflect its real internal stance.

KPMG Chief Economist Diane Swonk similarly stated that the three dissenting votes were no coincidence, signaling that some Fed governors are likely preparing to support further rate hikes in the future.

Asset prices fluctuated sharply after the decision announcement. US stocks rebounded amid volatility; US Treasury yields briefly dipped then quickly recovered, with the 10-year yield rising back to about 4.63%. Notably, after Walsh’s remarks, the 30-year US Treasury yield briefly rose to its highest level since 2007, reflecting ongoing market caution about long-term inflation and fiscal financing pressures.

Although the dollar fell sharply on Wednesday, analysts believe its long-term trend still depends on the US economy and inflation. Manulife Investment Management Senior Portfolio Manager Nathan Thooft said that not raising rates this time alone was enough to drive about a 0.5% dollar adjustment. However, in the longer run, the dollar’s current upcycle may have peaked, though the ensuing decline is expected to be slow rather than a rapid drop.