FX Daily: Bearish yield curve steepening hits risk assets
Lead — The desk observes a prevailing bearish yield curve steepening which is exerting pressure on risk assets and supporting the dollar, particularly in light of rising U.S. Treasury yields and concerns over inflation. Per the full note from ing-think, the sell-off in bond markets has been fueled by last week's troubling inflation signals, leading to higher yields that challenge the Federal Reserve's ability to manage inflation effectively. Market participants are particularly wary of the implications of robust oil prices combined with climbing bond yields on the overall risk landscape. This dynamic impacts major currency pairs with the dollar likely to remain strong in the short-term, particularly against the EUR, GBP, and JPY, as risk aversion continues to shape investor sentiment.
What the desk is arguing
The desk frames this as a significant moment for FX markets where rising yields may keep the dollar buoyant against a backdrop of declining risk appetite. Recent inflation indicators have prompted a climb in U.S. Treasury yields, suggesting the Fed may need to recalibrate its approach to rate hikes.
Support for this view comes from the notable increase in U.S. Treasury yields, which have climbed sharply within the last week, signaling a shift in monetary policy expectations. Specifically, concerns over high oil prices too are serving as a headwind for risk assets, exerting additional upward pressure on Treasury yields and thereby supporting the dollar.
Where it sits in our coverage
In our coverage, the current consensus target for EUR/USD is 1.1750, with a range from 1.1300 to 1.2000, while GBP/USD shows a consensus target of 1.3500, and the spread for USD/JPY indicates a target of 154.5000. Notably, - hsbc expects GBP/USD at 1.3500 by March 2026, - goldman has a Mar-26 target of 1.1800 for EUR/USD, - morganstanley is positioned at 155.0000 for USD/JPY.
Our perspective aligns with a slightly more bearish outlook on the dollar compared to some forecasts with ubs seeing EUR at 1.2000 by March 2026, placing our view at the lower end of the range, signaling potential for divergence in forthcoming market actions.
How other firms see it
Several firms are aligned with our bearish outlook on risk assets, including hsbc, ubs, and bnpparibas, all projecting targets that suggest weakening against the dollar. Conversely, firms like citi and morganstanley are adopting a more optimistic stance, anticipating a stronger rebound in their respective currency targets.
The trajectory of EUR/USD is especially correlated with ECB decisions regarding rate paths, and fluctuations in the USD/JPY impact are likely as the narrative unfolds regarding BoJ policy shifts. Positioning should be closely monitored, as strong moves in these pairs could provide volatility amid market uncertainty.
How firms align with this view
Aligned with the desk view
Contrary positioning
Key takeaways
- 01Bearish yield curve steepening is pressuring risk assets and supporting the dollar.
- 02Recent U.S. inflation signals have caused Treasury yields to surge, challenging Fed credibility.
- 03Market participants should monitor high oil prices as a headwind to risk assets.
- 04Upcoming monetary policies from central banks could significantly influence currency pairs.
Market implications
Watch for potential resistance in USD/JPY around the 160.0000 mark while closely monitoring the EUR/USD for a test of support at 1.1750. Key positioning shifts may occur based on upcoming inflation data or Fed commentary looking to recalibrate interest rate expectations.
Risks to this view
Should inflation indicators stabilize or weaken, this could prompt a favorable turnaround in risk assets, diminishing the support for the dollar. Any abrupt shift in the Fed's interest rate trajectory or unexpected geopolitical developments could also lead to a reversal of the current dollar strength.
The sell-off in bond markets is the dominant story in global financial markets. Some worrying signs in US inflation last week have seen US Treasury yields break higher and question whether the Fed is beyond the curve on inflation. High oil prices and higher bond yields are a big headwind to risk assets and stand to keep the dollar supported in the near term
Sources & References
How we cover this story
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