Fed hawkishness and energy slump drive dollar higher, but MUFG sees gains fading
The dollar's recent breakout above its year-long trading range, driven by hawkish Fed rhetoric and declining energy prices, suggests the potential for continued near-term gains against the euro. Per the full note from MUFG, while positioning momentum is still underpinned by IMM's long-USD exposure, which remains significantly lower than early-year peaks, it's essential to note that the market is responding to both monetary policy divergence and the collapse of Brent crude prices. This backdrop leaves EUR/USD vulnerable, especially if the Fed continues to signal additional rate hikes, despite a broader outlook for recovery into the 1.1400 to 1.1800 range as outlined by consensus. With no significant calendar events on the horizon to drive volatility, the focus will remain on positioning adjustments in the meantime.
What the desk is arguing
The desk believes the dollar's recent momentum can sustain further gains in the short term, particularly against the euro, as signs of a hawkish Fed reverberate through the market. Per the full note from MUFG, the dollar index has moved above resistance levels, with expectations for further accumulation in long-USD positions still possible given the low current IMM exposure relative to earlier in the year.
Key to this bullish sentiment is the stark decline in Brent crude prices, now fully reversing the gains from conflict-driven spikes. This has led to refined European rate expectations, pressuring EUR/USD downward amidst a widening yield differential as U.S. rates remain comparatively elevated due to the Fed's posture.
Where it sits in our coverage
Our consensus target for EUR/USD is currently at 1.1700, with a range stretching from 1.1200 to 1.2000. Specifically, firms are aligned with targets such as: - mufg: Dec26 1.2400 - goldman: Dec26 1.2000 - jpmorgan: Dec26 1.1300
This view positions our outlook within the higher range of expectations across the market, as a potential retracement toward the 1.1400 level overlaps with MUFG’s assertion of short-term dollar strength.
How other firms see it
Firms such as hsbc and scotiabank express a cautious optimism, forecasting a range of targets around the current levels while maintaining tighter estimates. On the contrary, deutschebank and citi appear more bearish, with projections reflecting a weaker euro outlook.
Key indicators like the ECB's rate decisions and U.S. inflation statistics remain pivotal influencing factors, especially as shifts in these areas could provide clarity on future EUR/USD trajectories.
How firms align with this view
Aligned with the desk view
Contrary positioning
Key takeaways
- 01The dollar's breakout suggests potential for further near-term gains, especially against the euro.
- 02Positioning in long-USD remains under-levered compared to earlier in the year, allowing for upward room.
- 03Brent crude's sharp drop impacts European rates, amplifying the yield gap against the U.S. dollar.
- 04The Fed's hawkish guidance indicates a shifting monetary landscape that could underpin USD strength.
Market implications
Focus on the EUR/USD parity against the key level of 1.1000 as a psychological threshold while observing the lack of calendar events for fresh impetus. Look out for positioning shifts and updates on Fed statements as they could amplify current trends.
Risks to this view
A reversal of this call could be prompted by unexpected dovish signals from the Fed, which would undermine recent gains. Additional upside in energy prices could also pressure the dollar scenarios, particularly if Brent crude's trajectory shifts back upward.
EUR/USD — All Desk Targets
| Firm | Stance | YE 2026 |
|---|---|---|
Rabobank | Bearish | 1.1000 |
ING | Bullish | 1.1300 |
MUFG | Neutral | 1.1200 |
The dollar's breakout above its year-long trading range has reactivated positioning momentum, with IMM long-USD exposure still well below early-year peaks, leaving room for further near-term accumulation. Options flow is signalling stronger conviction for USD gains against the euro than the yen. The sharp reversal in Brent, which has now fully unwound its conflict-driven rally, is compressing European rate expectations and widening the transatlantic yield spread, the primary mechanical driver of the current move.
EUR/USD is at risk of slipping further below 1.1000 if the Fed follows through on rate hike rhetoric, though the base case for a recovery into the 1.1400 to 1.1800 range remains intact. MUFG says the dollar is set for a second straight weekly gain after the Fed's hawkish shift and collapsing energy prices widened the policy gap with Europe, though it expects USD strength to fade by year-end. Summary: The dollar index has broken above its year-long trading range and is approaching levels last seen before the Liberation Day tariff announcement in early April 2025, according to MUFG's weekly FX note New Fed Chair Kevin Warsh's inflation rhetoric at his first FOMC meeting has fuelled expectations for multiple rate hikes, lifting US yields even as energy prices fell sharply following the US-Iran Strait of Hormuz agreement, per the note Brent crude has fully reversed all gains recorded during the conflict, a move MUFG describes as faster and larger than expected, with implications for the inflation outlook in Asia and Europe NY Fed President John Williams said current policy is well-positioned to return inflation to target, forecasting a decline to around 3.5% by year-end and 2.0% by 2028, but acknowledged inflation remains elevated, per his public remarks cited in the note ECB Chief Economist Philip Lane signalled a final 25bp hike remains possible, noting the upper end of the ECB's estimated neutral rate range has risen to 2.50%, according to MUFG's account of his comments MUFG maintains a long USD/NOK trade recommendation and expects the ECB's annual Sintra forum next week to shed further light on the transatlantic policy divergence The US dollar is on track for a second consecutive week of gains, driven by a hawkish pivot from the Federal Reserve and a dramatic collapse in energy prices that has widened the monetary policy gap between the United States and Europe, according to analysis from MUFG.
The dollar index has broken above the top of its year-long trading range and is closing in on levels last traded before President Trump's Liberation Day tariff announcement in early April 2025, around 103.00. MUFG notes that a full recovery to those levels would signal that the risk premium tied to US policy uncertainty, which had weighed heavily on the currency through the first quarter, has been largely unwound. Central to the move is the stance of new Fed Chair Kevin Warsh, whose tough inflation rhetoric at his inaugural FOMC meeting rattled markets and stoked expectations that the central bank could deliver a series of rate hikes.
Sources & References
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