Throughout the past week, interest traders have been increasing their bets for a larger move by the Federal Reserve, which has led to widespread dollar weakness

The US dollar got killed as today’s comments from Federal Reserve President Ben Bernanke send expectations for a 50bp rate cut at the end of the month skyrocketing.

Traders have braced for the worst as rate cut expectations continue to edge higher.

For carry trades to thrive, central banks need to be raising interest rates, volatility needs to be low, traders need to be optimistic and risk appetite needs to be strong. Unfortunately, this does not describe today’s market environment.

The dollar has rallied, but the latest employment report puts the odds of a recession at more than 50 percent. This may explain why rate cut expectations are continuing to rise.

After the release of December non-farm payrolls, the market started to price in as much as 100bp of easing over the next 4 months, which would bring rates down to 3.25 percent, the lowest since June 2005.

The US dollar weakened against every major currency with the exception of the British pound. The selling was triggered by the manufacturing ISM report which suggested that the manufacturing sector could be in a recession and also indicated that the dollar’s weakness is not helping exports.

The trade weighted dollar index fell 10 percent this year, but against the Euro specifically, the dollar lost 13 percent of its value. On the last trading day of the year, the dollar is firmer, but that strength is not broad based.

Low volatility in the week ahead would be very surprising because a lot of important US data is due for release including existing home sales, manufacturing and service sector ISM and non-farm payrolls.