Why the Dollar Fell Despite Fed Hike Odds—and Why Gold Benefited

A currency can fall even when markets expect its central bank to raise rates. That was the central message behind the Dollar Index’s move below 98.70: traders appeared to see a potential Federal Reserve hike as substantially anticipated, while new developments were lowering long-term U.S. yields and narrowing the dollar’s relative advantage.

The result was a broad macro trade: less demand for the dollar, a stronger yen as carry positions unwound, and renewed support for gold as both a dollar-priced asset and a portfolio hedge.

A priced-in Fed hike is not necessarily dollar bullish

Rate expectations matter most when they change. If investors already assign a meaningful probability to a Fed increase, the dollar generally needs a more hawkish surprise—such as a higher probability of action, a stronger path for later hikes, or a widening advantage over foreign rates—to rally decisively.

That dynamic helps explain why stronger U.S. payrolls did not provide sustained support. Market attention had shifted beyond one meeting toward long-end yields, fiscal concerns and the outlook for policy elsewhere. Commentary ahead of the Fed meeting noted that the Dollar Index failed to regain prior highs even after stronger-than-expected job growth. 23

Treasury’s buyback announcement changed the immediate yield story

On August 19, the U.S. Treasury said it would at least double the maximum size of liquidity-support buybacks for 10–20-year and 20–30-year nominal coupon securities, from $2 billion to at least $4 billion per operation. The change was scheduled to run from September 9 through November 4. 50

Treasury described these as liquidity-support operations, not monetary policy or Federal Reserve money creation. But markets responded to their near-term implication: more buying support for long-dated Treasuries. Long-end yields dropped sharply after the announcement; Reuters reported that the 30-year yield fell by nearly 10 basis points, while the 10-year yield also declined. The dollar weakened alongside that move. 36

Why does that matter for the currency? Lower Treasury yields can reduce the return advantage available to global investors holding dollar assets. At the same time, the announcement revived investor debate over deficits, borrowing costs and the sustainability of U.S. fiscal policy. Reuters reported that this mix fed concern about a “debasement trade,” benefiting assets such as gold and bitcoin while weighing on the dollar. 33

That interpretation should be kept in perspective. A Treasury buyback program is a debt-management and market-liquidity tool; it does not by itself prove currency debasement. The market reaction reflected how investors assessed its implications for yields and fiscal risk, not a formal change in the Fed’s monetary framework.

The yen’s rally added another source of dollar pressure

The dollar index is heavily influenced by major counterpart currencies, and the yen’s advance became an important part of the move. Expectations for a Bank of Japan rate increase encouraged investors to close yen-funded carry trades—positions in which traders borrow low-yielding yen to purchase higher-yielding assets. Closing those trades requires buying yen back.

USD/JPY fell as low as 152.89, its strongest yen level since February, amid expectations for a 25-basis-point Bank of Japan increase at its September 17–18 meeting. 26 Other market reports put the probability of that increase near fully priced and linked the move to carry-trade unwinding. 22

A move below 150 was therefore a plausible market scenario rather than a certainty. It would depend on the Bank of Japan delivering a hike or guidance that convinced investors that further normalization was coming. A cautious outcome, by contrast, could produce a yen pullback and remove one important source of dollar selling.

Shrinking policy divergence weakened the dollar’s advantage

The dollar’s previous support had rested partly on a comparatively high U.S. yield structure. That advantage becomes less compelling when other major central banks are expected to tighten or remain restrictive.

In this setup, a potentially more hawkish Bank of Japan mattered especially because of its effect on yen positioning. Expectations around the European Central Bank also contributed to the broader view that the U.S. was becoming less exceptional on rates. The practical takeaway is that foreign exchange markets price relative policy paths, not merely the next Fed decision.

Why gold rose with the dollar’s decline

Gold is conventionally priced in dollars, so a weaker dollar can make bullion less expensive in other currencies and support non-dollar demand. But the move was not solely a mechanical currency effect.

Gold also attracted demand from investors looking for diversification amid concerns about real rates, fiscal policy and adverse macro outcomes. UBS characterized gold as more than a tactical expression of the next Fed decision, emphasizing its role as a portfolio hedge and diversifier. 2

That distinction matters. A single hot inflation report or hawkish Fed decision can still pressure gold in the short run by lifting yields and the dollar. But the broader gold case rests on a wider set of drivers, including reserve diversification, investment flows and demand for protection against financial or geopolitical shocks.

China’s August purchase reinforced the reserve-diversification case

The People’s Bank of China added 650,000 ounces of gold in August, taking official reserves to 76.73 million ounces. The purchase was the largest monthly increase since October 2023 and extended the buying streak to 22 consecutive months. 4

That is roughly 20 metric tons of gold. 5 The purchase does not guarantee higher prices or create a fixed floor under the market, but it is evidence of continuing official-sector demand even after a sharp gold rally. For investors, it supports the argument that some bullion demand is structural reserve diversification rather than purely short-term speculation.

UBS’s then-current $5,000-per-ounce first-half 2027 target reflected this longer-horizon view: expectations of falling real rates, a weaker dollar and sustained central-bank demand. 2 It remains a forecast, not a promise, and its validity depends on macro conditions and actual investment flows.

What could change the dollar, yen and gold next

Three events were set to test this market narrative:

• U.S. PPI and CPI: Softer inflation could reinforce expectations for easier policy later, potentially lowering yields and helping gold. Stronger readings could lift yields and support the dollar, though investors may still judge whether higher inflation worsens fiscal concerns.
• The September 16 Fed decision: A hike accompanied by clearly hawkish forward guidance could trigger a dollar rebound and weigh on gold. A hold or cautious message would strengthen the case that U.S. policy divergence is fading.
• The September 17–18 Bank of Japan decision: A hike or firm normalization guidance could extend yen strength and carry-trade unwinding. A more cautious outcome could quickly reverse part of the yen’s advance. 2226

The bottom line

The drop in the Dollar Index was not a rejection of the possibility of a Fed hike. It was a repricing of what mattered more: declining long-dated Treasury yields after the buyback announcement, concern about fiscal risks, and a narrowing gap between U.S. policy and the outlook in Japan and Europe.

Gold gained because the weaker dollar improved its currency backdrop while fiscal and diversification concerns strengthened its role as a hedge. Whether that trend persists depends on the incoming inflation data and central-bank decisions—but the episode showed why a single, partly anticipated Fed move is not enough to determine the dollar’s direction.