Hawkish Fed sends U.S. dollar soaring; bank stocks rally

By Rodrigo Campos

NEW YORK (Reuters) - The U.S. dollar touched a seven-week high against major currencies on Wednesday after the Federal Reserve signaled an interest rate rise could happen as soon as June, while stocks on Wall Street were buoyed by the resulting rally in bank shares.

The Fed will likely raise interest rates in June if economic data points to stronger U.S. second-quarter economic growth along with higher inflation and employment, according to minutes from the U.S. central bank's April policy meeting.

Markets had earlier priced in one interest rate hike from the Fed this year, but this week's U.S. inflation data, recent comments from several Fed policymakers, and the minutes of the last policy meeting published on Wednesday have now all led analysts to see monetary policy tightening soon.

Futures markets see the probability of an interest rate rise in June at 34 percent, up from 15 percent on Tuesday, and the likelihood of a July rise at 54 percent, up from 33 percent, according to CME FedWatch.

Bank stocks rose on Wednesday, as banks are seen benefiting from higher interest rates, while technology was the second-best performing sector, helping to reduce losses on Wall Street seen earlier in the day.

"The cyclical sectors on the stock market are doing better, so there’s a bullish undertone to the idea that the Fed will finally start to normalize interest rates," said Jim Paulsen, chief investment strategist at Wells Capital Management in Minneapolis.

"I think it is high time that the Federal Reserve starts to normalize policy. We’ve tried this for seven years, let’s try something new. If the Fed shows confidence the private sector might do the same," he said.

The Dow Jones industrial average <.DJI> fell 3.36 points, or 0.02 percent, to 17,526.62, the S&P 500 <.SPX> gained 0.42 points, or 0.02 percent, to 2,047.63 and the Nasdaq Composite <.IXIC> added 23.39 points, or 0.5 percent, to 4,739.12.

Banks also led European stocks higher. The pan-European FTSEurofirst 300 index <.FTEU3> ended up 0.82 percent, while MSCI's gauge of stocks across the globe <.MIWD00000PUS> fell 0.12 percent weighed by the weakness on Wall Street.

US DOLLAR RISES ON LIKELY FED RATE RISE

The U.S. dollar index <.DXY>, which measures the greenback against a basket of currencies, rallied to its highest since late March on chances for an interest rate rise soon, and ended up 0.69 percent.

The yen <JPY=> was down 0.99 percent versus the greenback at 110.20 per dollar and the euro <EUR=> fell 0.85 percent to $1.1215.

Crude oil futures turned lower as the dollar rose as commodities are usually priced in U.S. dollars. Trading was volatile as investors earlier focused on a large gasoline drawdown in U.S. government oil inventory data and a surprise build in crude stockpiles.

U.S. crude <CLc1> was down 0.9 percent at $47.90 and Brent crude <LCOc1> last traded at $48.56, down 1.5 percent on the day.

U.S. Treasury yields rose to multi-month highs on the higher rate expectations.

Benchmark 10-year notes <US10YT=RR> fell 28/32 in price to yield 1.8521 percent, up from 1.753 percent on Monday. The yield on the 10-year Treasury note touched its highest since April 27.

"It seems like the market was in 'show-me' mode" when it comes to the Fed's interest rate expectations, Martin said.

"The action in short-term Treasuries right now is showing us that the market is starting to believe it a little bit more."

The yield for two-year Treasury notes <US2YT=RR> rose to as much as 0.912 percent, the highest since March 16. Yields on three-year notes <US3YT=RR> hit 1.085 percent, the highest since March 23.

Copper <CMCU3> fell 1.0 percent to $4,613 per tonne.

Spot gold <XAU=> was down 1.8 percent at $1,256.76 an ounce.

(Reporting by Rodrigo Campos, additional reporting by Sam Forgione and Dion Rabouin; Editing by Nick Zieminski)