Analysis by Terence Hove, Senior Financial Markets Strategist at Exness
The latest FOMC Minutes preserved the Fed’s easing trajectory but introduced a distinctly cautious “hawkish cut” signal, a deliberate attempt to prevent markets from assuming an unchecked easing cycle. This calibrated message kept the US dollar under modest pressure, not because the Fed turned decisively dovish, but because investors continue to price a more aggressive rate cut path than the Fed’s own projections. The resulting disconnect between Fed communication and market expectations is now one of the primary drivers of USD sentiment entering 2026.
Source: UGC
Fed Policy: Easing With Conditions, Not Commitment
The December 25 bp cut lowered the fed funds target to 3.50–3.75%, marking the third consecutive move since September and the lowest rate level since 2022. Yet the Fed explicitly emphasised uncertainty around the “extent and timing” of further cuts language designed to anchor expectations and prevent financial conditions from easing too quickly.
Crucially, the dot plot’s constrained forecast for 2026 easing stands in sharp contrast to market pricing. While futures markets continue to expect a longer and deeper cutting cycle, policymakers are signalling discomfort with that trajectory. This divergence is essential: it caps aggressive USD downside, even as short-term yield compression weighs on the currency.
Rates and Market Repricing: Yield Compression Narrows USD Advantage
US Treasury yields responded predictably to the meeting, with the 10-year pulling back from above 4.2% to the low 4.1% zone. This subtle but meaningful shift weakens one of the dollar’s central pillars, its yield differential versus G10 peers.
Fed funds futures now imply substantially more easing over the next 12–18 months than the Fed is willing to endorse. This expectation premium is driving USD softness more than the rate cut itself. If markets are wrong about the depth of easing and the Fed ultimately follows its more hawkish path some of this USD weakness could unwind later in 2026.
FX Market Response: USD Weakens, but Levels Matter
The DXY index broke decisively lower post meeting, slipping toward the 98–99 region. Technical analysts highlight 98.0 as a structural support zone, an area that will determine whether this is a controlled repricing or the start of a broader bearish trend.
The dollar’s immediate weakness was most pronounced against safe havens and low yielders like the Japanese yen and Swiss franc, where yield differentials compress fastest. The 0.6–0.8% slide in these pairs reflects mechanical rate dynamics, not a deterioration in US fundamentals.
Outlook: Tactical USD Pressure, Strategic Floor
Near term, the US dollar likely remains under pressure as investors interpret the third consecutive cut as validation of a softer Fed stance. A modest drift lower aligns with reduced yields and the market’s conviction that more easing is ahead.
However, the medium term picture is more nuanced. Several stabilising forces limit the extent of USD downside:
● The Fed remains less dovish than its peers, especially the ECB, BoE, and BoJ.
● US growth forecasts have been revised higher, reinforcing a relative growth advantage.
● The policy rate is approaching neutral, rather than moving into deeply accommodative territory.
● A persistent risk premium around geopolitics and global cyclicality tends to support USD demand even during easing cycles.
The conclusion: the dollar’s near-term softness reflects a repricing of the Fed narrative, not a structural bearish turn. Unless the Fed embraces the deeper easing path priced by markets or US growth materially disappoints the USD retains a durable medium term floor heading into 2026.
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Source: TUKO.co.ke
