JPMorgan maintains long USD: Inflation risk premium weighs on the dollar after the FOMC, but the long trade is not over

Overview

This report is JPMorgan Global FX Strategy's post-FOMC FX review. It notes that although hawkish elements were present in the initial FOMC statement and prepared remarks, the press conference reignited market concerns about the Fed's ability to reduce inflation and its institutional credibility, thereby raising the USD inflation risk premium and triggering dollar selling. Nevertheless, the authors still believe the long USD trade is not over.

Core views

The core view is that the post-FOMC dollar decline was a significant setback, but not the end of the long USD thesis. Dollar weakness was consistent with a twist-like steepening of the 2s30s curve, lower front-end rates, and higher long-end rates, indicating that the market embedded Fed credibility and inflation risk premiums into FX. However, JPMorgan believes the Fed may hike rates in December to preserve credibility, while September remains a potential data-dependent window; at the same time, the repricing of US short-end differentials has not materially undermined USD carry, and energy prices, geopolitical risk from Iran, and deteriorating global risk appetite could also support the dollar.

Analysis framework

The report decomposes the FOMC event into several threads: the statement, press conference, interest-rate curve, inflation compensation, FX options positioning, and relative G10 currency performance. It first explains why the hawkish dissent failed to support the dollar, then uses changes in the 2s30s curve, DXY, breakevens, and OIS to identify the sources of dollar selling, and finally assesses the impact of different G10 currencies, gold, energy, and the equity risk environment on the USD trade.

Methodology notes

• Macro FX strategyFOMC event review

  Determine the FX direction through policy statements, the press conference, and market price reactions.

  The report believes the initial FOMC information was hawkish, but the press conference triggered concerns about Fed credibility, shifting the market from pricing hawkish dissent to pricing an inflation risk premium.

• Rates-FX linkage2s30s twist-steepening analysis

  Lower front-end rates and higher long-end rates are generally unfavorable for USD.

  The report links USD selling to the steepening of the 2s30s curve and believes this combination reflects concerns about long-term inflation expectations and institutional credibility.

• Risk premium analysisInflation risk premium and Fed credibility

  A decline in Fed credibility raises the inflation risk premium and weakens the dollar.

  The press conference's comments on the PCE target, the path toward achieving the inflation target, and market repricing were viewed as reducing confidence in the Fed's ability to combat inflation.

• FX portfolio expressionUSD versus a basket of G10 low-yielding currencies

  Express a long-dollar view through a currency basket, reducing noise from individual crosses.

  The report favors being long USD against a basket of G10 low-yielding currencies, including EUR, SEK, NZD, CAD, and CHF.

Asset mapping & comparison

Structured mapping from thesis to named assets (strengths, weaknesses, peers, risks).

• USD

  Core long asset

  Strengths

  US yields and carry remain supportive, data are broadly resilient, and energy and safe-haven conditions may provide additional support.

  Weaknesses

  Concerns about Fed credibility, a rising inflation risk premium, lower front-end rates, and higher long-end rates will weigh on the dollar.

  Comparison

  Preferred relative to G10 low-yielding currencies such as EUR, CHF, SEK, CAD, and NZD.

  Risks

  If employment or inflation data soften, or the Fed reaction function is interpreted as more dovish, USD could weaken further.

• EUR

  Short component of the long USD basket

  Strengths

  Fed credibility risks could delay EUR's decline toward fair value.

  Weaknesses

  The report believes the directional bias remains toward a weaker EUR.

  Comparison

  Unfavored relative to USD.

  Risks

  If pressure on dollar credibility persists, the pace of EUR depreciation could slow.

• SEK

  Supported by rate sensitivity but still shorted

  Strengths

  If the Fed reaction function becomes more dovish, rate-sensitive currencies such as SEK could benefit.

  Weaknesses

  The report explicitly states that this is not its core view and maintains short SEK.

  Comparison

  Despite its rate-sensitive characteristics, it remains the low-yielding currency counterpart in the long USD basket.

  Risks

  If Fed credibility concerns drive more dovish expectations, SEK could temporarily outperform.

• GBP

  Potential spillover risk asset

  Strengths

  No explicit bullish view.

  Weaknesses

  If higher US term premiums spill over into global long-end bond markets, GBP could come under pressure from fiscal risk premiums.

  Comparison

  Could perform worse than USD in a scenario of global long-end bond market stress.

  Risks

  Volatility in long-end bond markets and rising fiscal risk premiums.

• JPY

  Potential spillover risk asset

  Strengths

  No explicit bullish view.

  Weaknesses

  If global long-end bond markets are hit by a US term premium shock, JPY could also face the risk of underperformance.

  Comparison

  Similar to GBP, it is affected by long-end bonds and fiscal risk premiums.

  Risks

  Spillover from rising global long-end yields.

• Gold

  Indicator for the dollar depreciation trade

  Strengths

  Can serve as a gauge of whether the market is repricing dollar depreciation or fiat currency debasement trades.

  Weaknesses

  The report provides no direct trading recommendation.

  Comparison

  Related to concerns about USD credibility and term premiums.

  Risks

  If the risk of unanchored inflation expectations rises, gold could reflect stronger safe-haven or debasement trades.

Key data

• FOMC dissent3 members dissentedHawkish dissent emerged during the statement phase, initially meeting the threshold for a bullish USD view.
• 2s30s curve move+15bpThe report calls this the largest one-day end-to-end curve move on an FOMC day in the past decade.
• Change in inflation compensation+4-7bpBreakevens jumped, viewed as evidence of a rising inflation risk premium.
• US front-end OIS changeapproximately -5 to -6bpDuring the FOMC, the average one-year-or-less tenor of US one-month forward OIS declined, but the move was not considered large enough to undermine USD carry support.
• Terminal rate pricingapproximately 50bp above the current rateThe market continues to price the terminal rate above current levels, supporting defensive USD carry.
• Fed policy pathDecember hike; September remains data-dependentJPMorgan believes the Committee may act to preserve credibility, and that a September hike remains possible if inflation reaccelerates.
• Global equity pressure and USDapproximately 1% USD TWI appreciation corresponding to an approximately 5.5% decline in global equitiesThe report cites the historical relationship over the past decade, indicating that a deterioration in the risk environment could activate the dollar's countercyclical properties.

Impact & implications

The investment implication is that post-FOMC short-term dollar pressure reflects the repricing of Fed credibility and the inflation risk premium, but as long as US data remain resilient, short-end differentials remain supportive, energy and geopolitical risks rise, or global risk appetite deteriorates, the long USD position retains defensive qualities. The preferable expression is to be long USD against a basket of G10 low-yielding currencies rather than shorting the dollar solely in response to a Fed credibility shock.

Risks

• Concerns about Fed credibility continue to intensify, further raising the inflation risk premium and weighing on USD.
• The next nonfarm payrolls report or other US data could be soft, putting further pressure on the dollar.
• Continued declines in short-end differentials could weaken the protection provided by USD carry.
• Higher US term premiums could spill over into global long-end bond markets, potentially changing relative G10 currency performance.
• If the market concludes that the Fed reaction function has clearly turned dovish, rate-sensitive G10 currencies could temporarily outperform USD.

What to watch

• Whether the next US nonfarm payrolls report remains resilient.
• Whether US inflation data reaccelerate and whether the September FOMC again becomes more likely to deliver a rate hike.
• The combined changes in the 2s30s curve, breakevens, and real yields.
• Whether US one-month forward OIS and terminal rate pricing continue to erode USD carry.
• Whether the situation in Iran, energy prices, and global equity risk appetite continue to support the dollar's safe-haven properties.