FX Daily: Summer complacency questioned
The FX desk identifies a heightened volatility environment in response to rising energy prices and anticipated central bank reactions, particularly impacting major currency pairs. Per the full note source, the dollar is expected to strengthen on the back of elevated expectations for Federal Reserve tightening, as market sentiment positions ahead of potential shifts in US monetary policy. With current EUR/USD trading around 1.1419, the consensus target remains at 1.16. Additionally, upcoming geopolitical tensions may keep investors wary, particularly concerning the US-Iran situation, which could influence dollar positioning into the weekend.
What the desk is arguing
The desk projects that the rising energy prices, compounded by expectations of central bank tightening, will bolster the dollar against its peers, leading to increased volatility across FX and asset markets. Per the full note source, central banks, notably the Federal Reserve, are expected to act in response to these shifts, maintaining a bullish outlook for the dollar.
This outlook is supported by a marked increase in real USD swap rates, which have risen by 30 basis points since the last FOMC meeting, reflecting a market that is convinced of the Fed's commitment to countering inflation and restoring credibility. The anticipation of a 75 basis point hike by both the ECB and the Bank of England further underscores the dislocation in yield differentials that is unfavorable to euro positioning.
The alternative view might suggest that a sudden drop in energy prices could alleviate inflationary pressures and prompt a substantive shift in the central bank's rhetoric, though current trajectories do not support this scenario.
How firms align with this view
Aligned with the desk view
Contrary positioning
Key takeaways
- 01Dollar expected to strengthen amid rising energy prices and inflation concerns.
- 02Market anticipates significant rate hikes from the Fed, ECB, and BoE.
- 03EUR/USD struggling to gain traction as rate spreads move against it.
- 04Ongoing geopolitical tensions, particularly regarding Iran, may influence dollar positioning.
Market implications
Traders should watch the DXY closely as it approaches the June highs at 101.80, which might trigger further dollar strength. Additionally, any shifts in energy prices over the weekend could provide catalysts for movement in EUR/USD and USD/JPY, especially as these pairs are deeply entangled in the current central bank narratives.
Risks to this view
A reversal in the call could occur if there is a significant decline in energy prices that leads to a reassessment of inflation pressures, potentially causing central banks to adopt a more dovish stance than currently anticipated. Additionally, if geopolitical tensions ease unexpectedly, it may lessen demand for safe-haven dollars, thereby reversing the current bullish trend.
EUR/USD — All Desk Targets
| Firm | Stance | YE 2026 |
|---|---|---|
Citi | Bearish | 1.1000 |
UOB | Neutral | 1.1450 |
MUFG | Bullish | 1.1800 |
Articles FX Daily: Summer complacency questioned Published 08:13 FX Share X LinkedIn E-mail Copy link Share X LinkedIn E-mail Copy link Download Energy price rises and the likely central bank response have triggered increased volatility across the bond, equity and FX space. This has led to some pressure on popular summer carry trades and refocused attention on energy-exporting currencies backed by central banks ready to tighten. Expectations of Fed tightening will keep the dollar bid Chris Turner , Frantisek Taborsky and Francesco Pesole Energy price increases and a bond market sell-off favour the dollar USD: It's all about the Fed The dollar continues to perform well as high energy prices raise expectations for a central bank response.
President of the ECB, Christine Lagarde, made it pretty clear yesterday that the central bank would be hiking in September, and markets now price a further 75bp of tightening for both the ECB and the Bank of England. That seems excessive, but is hard to fight unless energy prices turn sharply lower soon. Crucially – and after the June FOMC meeting – the market believes the Federal Reserve will have to respond as well.
Since that June FOMC meeting, two-year real USD swap rates have risen 30bp as investors buy into the only message we have heard from the Fed – the need to restore credibility when it comes to fighting inflation. While we do not think the Fed will hike next week, it remains very dangerous to fight this trend and, as we have been saying all week, we expect the dollar to outperform. US data today is relatively light – just July S&P PMI readings and new home sales.
But with US President Donald Trump threatening a fresh military onslaught on Iran, expect investors to hold onto their long dollar balances into the weekend. DXY is not far from June's 101.80 high and an upside break-out cannot be ruled out. Chris Turner EUR: Real rate spreads moving against EUR/USD A hawkish hold from the ECB provided little support to the euro yesterday.
The reasons for that appear to be high energy prices weighing on European growth prospects and, more importantly, a larger adjustment in real rates in the US than in the eurozone. Here, two-year real EUR/USD swap differentials have widened out to levels last seen in late 2024 when EUR/USD was trading under 1.10. We do not think EUR/USD needs to trade down to those levels now, but as long as energy prices continue to fire up Fed tightening expectations, we think the pair should be pressing the low 1.13s.
For today, the eurozone data focus will be the July flash PMIs and also the WAVE inflation survey. These should confirm the ECB's risk assessment of downside risks to growth and upside risks to inflation. Chris Turner CEE: Hawkish repricing should stabilize FX The CEE region was hit hard yesterday by the global rise in oil and gas prices, triggering a sharp repricing of implied policy-rate paths.
Sources & References
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