Risk appetite was notably weaker on Monday with unease over Delta variant coronavirus developments in the global economy.

Risk appetite was notably weaker on Monday with unease over Delta variant coronavirus developments in the global economy. There was further defensive demand for Treasuries with the 10-year yield at 5-month lows.

Wall Street equities posted sharp losses as fear dominated markets. Global equities also retreated sharply with the FTSE 100 index at 2-month closing lows.

The dollar advanced against European currencies with EUR/USD trading below 1.1800. There was solid demand for the Japanese yen with USD/JPY dipping to 7-week lows. Sterling was undermined by dovish BoE talk and weaker risk appetite with GBP/USD at 5-month lows. Commodity currencies declined sharply as equities fell and risk appetite dipped sharply with 7-month AUD/USD lows.

The Bundesbank stated that the German economic output increased strongly in the second quarter of 2021 and added that the expansion is likely to be even stronger in the third quarter provided that there are no significant setbacks surrounding the pandemic and supply bottlenecks also gradually ease.

The Euro remained under pressure during the European session on Monday with EUR/USD retreating to three month lows at 1.1765 while the dollar maintained a strong tone, especially with much weaker risk conditions. There was a sharp dip in risk appetite during the European session which underpinned the US dollar and there was sustained selling pressure on commodity currencies which also triggered further position adjustment and a closing of reflation trades.

The US dollar retreated from peak levels in early New York and there was a significant shift in the trading environment as the Euro recovered ground. With risk appetite remaining on the defensive, there was further evidence that carry trades funded through the Euro were being closed.

In this environment, EUR/USD moved back above the 1.1800 level.  Ranges narrowed later in the session with the pair unable to sustain a recovery and settling just below 1.1800 with expectations of a dovish ECB policy also sapping single-currency support.

Risk appetite remained fragile on Tuesday amid unease over coronavirus trends with EUR/USD still near 3-month lows around 1.1780.

Risk appetite remained vulnerable in early Europe on Monday as equity markets continued to lose ground. The yen continued to gain defensive support with a further liquidation of both carry trades and short yen positions. The US currency was also undermined by a further slide in US bond yields to 5-month lows.

The dollar continued to lose ground with 7-week USD/JPY lows near 109.00 after the Wall Street open while the Japanese currency gained further strong support on the crosses as the Euro and Sterling also retreated sharply against the yen. USD/JPY recovered some ground to near 109.50 after the European close even though Wall Street equities remained on the defensive as the S&P 500 index declined 1.6%.

There was no change in Chinese interest rates following the latest policy decision with the 1-year rate at 3.85%. Japanese core inflation increased to a 15-month high of 0.2% from 0.1% previously, although there were no expectations of a shift in Bank of Japan policy.

US futures edged higher on Tuesday, but overall risk appetite remained fragile with USD/JPY trading just below 109.50 while EUR/JPY was close to 129.0.

Bank of England MPC member Haskel stated that inflation would remain high over the next few months, but also expected that most of the pressure would be temporary. He also expressed caution over the outlook, especially given concerns over the Delta variant and a tightening of fiscal policy. In this context, Haskel stated that it would be a mistake to tighten economic policy at this stage, although there would need to be a re-think if the economy started to tighten.

The rhetoric dampened expectations that the bank would move to a tighter monetary policy and undermined Sterling support with the weaker tone surrounding global risk appetite also an important element eroding support for the UK currency, especially with FTSE 100 index dipping to 2-month lows.

Sterling was also undermined by further concerns surrounding the sharp increase in UK coronavirus cases. There were also fresh reservations over Brexit developments and EU trade tensions which hampered sentiment with the UK due to issue a statement on the Northern Ireland protocol on Wednesday.

There were also no hawkish comments from MPC nominee Mann which also undermined market confidence later in the session.

GBP/USD dipped sharply to 5-month lows near 1.3650 while GBP/EUR weakened to 1.1600. The UK currency stabilised on Tuesday and GBP/USD held just above 1.3650, although overall sentiment remained notably fragile which limited the recovery potential.

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