Unwinding the Dollar Rally, Euro’s Caution, and Sterling’s Yield Strain.

• The dollar’s rally looks fragile, with weak justification beyond global bond moves.
• US labour market data (JOLTS, layoffs, payrolls) now drives the Fed outlook more than inflation.
• Eurozone inflation came in hotter, reducing odds of near-term ECB cuts.
• Lagarde is expected to reinforce a cautious stance, supporting a mild euro recovery.
• Gilt yield spikes pressured GBP, but strong demand for UK debt suggests risks are overstated.

USD: Dollar strength may fade
Yesterday’s surge in the US dollar lacked a strong trigger, with the main driver being a global selloff in long-dated bonds – notably UK gilts (see GBP section). Rising debt concerns abroad may have prompted investors to trim stretched USD long positions. Still, we doubt this move offers lasting support for the greenback given looming US data and the Fed’s easing path.

Labour market numbers now carry even more weight following Chair Jerome Powell’s implicit admission that jobs matter more than inflation risks. Attention could shift to data beyond official payrolls, especially as credibility questions linger over Trump’s appointment of a new BLS chief. Today’s JOLTS release is key: job openings are expected to dip in July but remain far above the 2018–19 average of seven million. Layoff figures, however, may matter more for markets. The current narrative is one of a cooling but stable job market – but rising layoffs would trigger faster dovish repricing.

Also on the agenda: the Fed’s Beige Book for regional detail on tariffs and price pressures, plus comments from hawkish FOMC member Alberto Musalem. We see little to justify yesterday’s dollar move and expect downside risk for the DXY as markets refocus ahead of Friday’s payrolls.

EUR: Inflation reinforces ECB caution
Our models still show EUR/USD undervalued, with a short-term fair level near 1.190. French political noise may keep the euro capped for now, but the recent underperformance of OATs appears largely priced in.

Yesterday’s eurozone core inflation print (2.3%) surprised slightly to the upside, lifting two-year EUR swap rates back above 2.10%. The odds of an ECB cut by year-end have dropped to one in three. While we still see room for cuts, markets may take time to price this dovishly given repeated ECB assurances that policy is well-positioned.

Any comments today from President Christine Lagarde at the ESRB event will likely reinforce this wait-and-see stance. After yesterday’s decline, we think EUR/USD has room to recover, with 1.170 a reasonable near-term target.

GBP: Pound hit by gilt selloff, but risks overstated
Sterling stumbled on Tuesday as long-dated gilt yields spiked, with the 30-year reaching levels unseen since 1998. However, this was part of a broader European bond selloff, with gilts not materially underperforming peers. EUR/GBP’s 0.7% jump shows sterling’s yield sensitivity, but we don’t expect further big losses purely from gilt moves.

Much of the yield rise reflects inflation and Bank of England repricing rather than fiscal concerns. Demand for ultra-long debt has been soft across developed markets, but the UK’s 10-year auction drew record demand (£14bn), countering the fiscal alarm narrative.

We still expect the BoE to cut rates by year-end, keeping us cautious on sterling. However, recent gilt dynamics don’t signal dysfunction and don’t justify a lasting sterling risk premium. For now, we see EUR/GBP better anchored below 0.870.