FX Daily: Bond vigilantes may be the dollar’s best friends
The desk posits that recent movements indicate bond vigilantes could be key allies for the dollar amidst shifting monetary policy perceptions. Per the full note source, the FOMC's confusing signals led to a dip in US real yields, putting downward pressure on the dollar, particularly evident after a steepening in the Treasury curve and rising mortgage rates. Current market dynamics reflect a divided view on Federal Reserve positioning, while expectations surrounding the US PCE inflation and eurozone GDP reports add further complexity. Our consensus for EUR/USD stands at 1.1525 by December 2026, with various firms projecting a range between 1.1200 and 1.2000, suggesting overall market uncertainty is elevated as the dollar navigates these threats.
What the desk is arguing
The desk argues that bond vigilantes may become pivotal in supporting the dollar, particularly as the Fed contemplates its next moves. Per the full note source, the Fed's recent press conference left the market interpreting a softer stance on inflation, with real yields declining despite some indications that the long end of the Treasury market may be tightening on its own.
Market reactions have signaled uncertainty, as the steepening of the 2-30 year Treasury curve by a dramatic 14 basis points highlights a potential disconnect in policy expectations. As mentioned, US 30-year mortgage rates exceeded 6.70%, which reflects pressures that the Fed may have to contend with in its next meetings. It appears the Fed could be reliant on market actions to dictate future policy, with real yields falling after significant increases since June — a development that typically leads to a weaker dollar.
Where it sits in our coverage
Our consensus for EUR/USD is currently at 1.1525, with a firm range from 1.1200 to 1.2000 by December 2026. Specific targets from notable firms include: - goldman: 1.1200 - morganstanley: 1.1600 - deutschebank: 1.2500
The desk's view indicates a slight bearish tilt towards the dollar as it aligns with expectations of declining yields and possible Fed inaction, situating itself within the lower bounds of the current forecast range.
How other firms see it
Several firms, such as bofa and jpmorgan, are forecasting a weaker outlook for the dollar in the near term, with targets around 1.1700 and 1.1800, which align with concerns regarding US inflation management. Conversely, firms like commerzbank and deutschebank project a stronger euro relative to the dollar, signaling a divide in expectations.
Watch the intersection of USD dynamics with eurozone GDP data, as this could influence the EUR/USD trajectory considerably.
How firms align with this view
Aligned with the desk view
Contrary positioning
Key takeaways
- 01The dollar may face pressure as bond vigilantes impact long-term yields and Fed policy expectations.
- 02FOMC communication has led to mixed interpretations about future interest rate hikes.
- 03Current market consensus for EUR/USD indicates a higher probability of a stronger euro, given targets that span a wide range.
- 04Mortgage rates and break-even inflation rates suggest increased caution among market participants regarding inflation control.
Market implications
Traders should monitor US PCE inflation data closely, as this could be a key driver for Fed adjustments and market expectations around interest rates. Additionally, the EUR/USD movement facilitates a range breakout above 1.1700 or a decline below 1.1400, which may signal broader market shifts.
Risks to this view
The primary risk to this outlook lies in unexpectedly hawkish signals from the Fed or a surprising increase in PCE inflation, which could push real yields higher and consequently support the dollar. A significant sell-off in the Treasury market without a comparable Fed response could also invalidate this bearish view.
EUR/USD — All Desk Targets
| Firm | Stance | YE 2026 |
|---|---|---|
Nomura | Bullish | 1.2000 |
Lloyds Bank | Bearish | 1.1200 |
Rabobank | Bearish | 1.1400 |
Articles FX Daily: Bond vigilantes may be the dollar’s best friends Published 07:20 FX Share X LinkedIn E-mail Copy link Share X LinkedIn E-mail Copy link Download US real yields and the dollar dipped on yesterday's FOMC, where a somewhat confusing press conference led investors to conclude that the Fed was trying to avoid tightening. But the sell-off in the long end of the Treasury market, pushing mortgage rates to new highs, will keep the Fed on its guard. Look out for US PCE inflation, eurozone GDP and the BoE today Chris Turner , Frantisek Taborsky and Francesco Pesole A drop in real yields has weighed on the dollar USD: Lots of focus on real yields Last night's FOMC press conference was a little confusing.
Looking at the market's reaction, the conclusion was that the Fed was not going to be as tough on fighting inflation as initially thought and might try to wriggle through this period of high inflation without hiking. Chair Kevin Warsh's celebration of higher real yields and the more 'direct' message from the markets was taken as a view that the Fed had outsourced monetary tightening to the markets, reducing the need for hikes. To be honest, we are not sure if that is the correct read or whether Warsh implicitly acknowledged that higher real rates embodied an expectation that the Fed would hike in September.
But the market reaction clearly reflected a Fed potentially going soft on inflation, with a huge 14bp steepening in the 2-30 year Treasury curve and US 30-year mortgage rates pushing above 6.70%. Break-even inflation rates derived through the 5Y5Y inflation swap rose 6bp as well. Having risen 60bp since the June FOMC meeting, two US real yields fell 7bp yesterday and undermined the dollar.
Presumably, we will not receive much of a steer from the Fed before its September meeting, and it will be the data which determines whether the Fed will hike. Bond vigilantes could also have a say as well, if a sell-off in the long-end accelerates and the Fed is forced to anchor the short-end with a hike. For today, the focus will be on the first look at 2Q GDP data (expected at 2.0% QoQ annualised) and the core PCE inflation data for June.
The latter is expected to have slowed a little, with core PCE at 0.2% month-on-month and the year-on-year rate dropping to 3.3% from 3.4%. Any downside surprises here could hit the dollar given the emerging view that the Fed is trying to avoid tightening. DXY probably risks a correction back to the 100.50 area and the two sets of CPI prints and jobs data before the 16 September FOMC meeting will determine whether DXY has topped for the year.
Chris Turner EUR: GDP and CPI data in focus EUR/USD enjoyed a modest bounce after the Fed press conference, but probably got caught in the crosscurrents. The drop in short-dated US real yields was a clear EUR/USD positive, but the sell-off in long-dated US rates and the pressure it put on growth stocks in the S&P 500 probably capped the EUR/USD move. Ultimately, the ING house call is that the Fed does not hike in September and EUR/USD ends the third quarter near 1.17.
Sources & References
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