The dollar is back in the driver's seat

A speech by Fed Chair Janet Yellen and the March jobs report, due April 1, are big events in the week ahead, but it's the reaction in the dollar that could have the most sway over markets.

The dollar has been edging higher on the idea that the Fed could give serious consideration to a rate hike at its April meeting. Pushing that thinking — and the dollar — is the Fed itself. A handful of Fed officials have said in the past week that a rate hike could be coming soon. That has ruffled markets since the Fed just issued a fairly dovish sounding policy statement after its March meeting.

NYSE traders on the floor
Spencer Platt | Getty Images
NYSE traders on the floor

Now the markets await word from Yellen, who speaks at the Economic Club of New York on Tuesday. "I do expect her to say April is a live meeting," said Marc Chandler, chief currency strategist at Brown Brothers Harriman. Even though market odds of a Fed rate hike are low for April, Chandler said it's possible the Fed could move if the data remains stronger.

The stock market is closed for the Good Friday holiday.

In the past week, the dollar made gains of more than a percent against a basket of currencies — the euro, Mexican peso, and Canadian dollar among them. British sterling fell much more against the greenback, losing nearly 2.5 percent on concerns about the U.K.'s upcoming vote on euro zone membership.

The dollar index, however, is about 3 percent below where it was when the Fed raised rates last December, the first hike in nine years.

As the dollar gained, commodities sold off and stocks weakened. West Texas Intermediate crude fell below the key $40-per-barrel level, and gold lost more than 2.5 percent for the week, as of Thursday. The S&P 500 had its first negative week in six, losing 0.67 percent to 2,035.94.

Friday's employment report for March is expected to show that the economy added 200,000 jobs, according to Thomson Reuters. The unemployment rate is expected to be unchanged at 4.9 percent and average hourly earnings are expect to rise by 0.2 percent.

"I think it's a pretty good week for the dollar. The jobs data has been relatively friendly for economic expectations and Fed expectations. A lot of it will depend on (hourly) earnings, but I think in general, you're getting the kind of signals that will be consistent with the Fed continuing to normalize," said Robert Sinche, global market strategist at Amherst Pierpont Securities.

Besides the jobs report, there is manufacturing ISM, auto sales and personal income and spending. "I do think unless we get a real surprise weakening on the labor front … the data is going to be consistent with the growing expectations that the April FOMC meeting sets up a June hike, and that settles into a market that's shed a lot of its long dollar positions," said Sinche. "Things are probably shifting back in the dollar's favor."

There is also European inflation data Thursday, and that is expected to show a decline. The euro has been weakening after the European Central Bank announced a new round of quantitative easing, loosening its policy, as the Fed moves toward further tightening. "I think the divergence trade comes back into play, and the employment data is probably a significant part of that," said Sinche.

Chandler agrees the divergence trade will dominate. "The euro is still going below parity. For me, the key driver is divergence. Divergence hasn't peaked partly because the Federal Reserve could raise interest rates as early as next month. Next week, the ECB could get a report of deflation. I think a lot of these issues could be put to bed when we get next week's jobs data. We had a correction for the dollar, and people confused a correction with the end of a trend," he said. "What's driving the dollar is divergence, and divergence hasn't peaked, so I don't think the dollar has peaked."

For some traders, the rising dollar has become something to monitor since a stronger dollar could be a negative for stocks, biting into foreign profits of U.S. companies. Ari Wald, technical analyst at Oppenheimer, said he does not expect the dollar to continue much higher.

"We think the dollar is going to be more range bound, and it's not going to necessarily be bad for equities. I think commodities can find a footing. They work back down and not make new lows. That would be a bullish setup for the market," he said. Wald said he expects stocks to make new highs in the second half of the year, and that the market is showing some signs of improvement, like broader breadth and a rebound in lower-quality stocks.

"It was such a strong, one-sided rally since that February low, I think some consolidation is reasonable and healthy," he said.

Chandler said the coming week could be a good one for the dollar, but perhaps not so for stocks since some corporations are sidelined from share buybacks ahead of earnings reports.

"We're also at the upper end of the range. Corporate profitability bothers us. I see higher labor costs on businesses, without much pricing power, squeezing margins," he said.

Besides Yellen, there are other Fed speakers in the coming week, including New York Fed President William Dudley on Thursday and Cleveland Fed President Loretta Mester on Friday.

Read MoreFinding a better way to do economic forecasting

What to watch


5:15 a.m.: San Francisco Fed President John Williams

8:30 a.m.: Personal income

8:30 a.m.: International trade

10 a.m.: Pending home sales

10:30 a.m.: Dallas Fed survey

1 p.m.: $26 billion 2-year note auction; Dallas Fed President Robert Kaplan


9 a.m.: S&P/Case-Shiller home prices

10 a.m.: Consumer confidence

12:15 p.m.: Fed Chair Janet Yellen at Economic Club of New York

1 p.m.: $34 billion 5-year note auction; Chicago Fed President Charles Evans


8:15 a.m.: ADP employment

1 p.m.: $28 billion 7-year note auction


8:30 a.m.: Initial claims

9:45 a.m.: Chicago PMI

5 p.m.: New York Fed President William Dudley


March vehicle sales

8:30 a.m.: Employment report

9:45 a.m.: Manufacturing PMI

10 a.m.: ISM manufacturing; consumer sentiment; construction spending

1 p.m.: Cleveland Fed President Loretta Mester

Clarification: This article has been updated to reflect that the jobs report for March will be released on April 1.