USD Rebounds, EUR Struggles, GBP Faces a Crossroad.

  • USD Rebound: The dollar correction appears over, with limited downside risk from US-Russia talks.
  • EUR Weakness: EU defence spending talks offer little support as Trump’s trade policies weigh on sentiment.
  • GBP’s Balancing Act: Strong UK labour data lifted GBP but may delay expected BoE rate cuts.
  • Interest Rate Outlook: Markets still expect ECB and BoE cuts, but the pace remains uncertain.
  • Geopolitical Factors: Russia-Ukraine negotiations and US trade policy remain key drivers for FX markets.

USD: Bearish Momentum Fades

Our view remains that the recent dollar correction has run its course, and we continue to favor a USD rebound against other G10 currencies. While a potential Russia-Ukraine peace deal could trigger a short-lived risk-on move that weighs on the dollar, markets have largely priced this in, and geopolitical risks remain.

Investor focus today will be on US-Russia bilateral talks, but unless there is a major breakthrough, recent optimism may fade, allowing the dollar to recover further.

From a positioning perspective, CFTC data suggests dollar longs are slightly less stretched, with USD positioning versus G10 currencies (excluding SEK and NOK) at a seven-week low but still above +20% of open interest.

Macroeconomic data will likely take a backseat this week, except for tomorrow’s FOMC minutes. Today’s Empire Manufacturing index and TIC flows are expected to have minimal market impact.

EUR: Limited Support from EU Defence Talks

Discussions among EU leaders about a joint defence fund are unlikely to provide a meaningful boost to the euro, as the catalyst—concerns over US military support under Donald Trump—is more of a risk factor than a positive driver for European currencies.

Hopes that EU coordination on defence will translate into fiscal unity to counter US protectionism are also unlikely to materialize. The eurozone’s lack of preparedness for the economic impact of Trump’s trade policies underpins our bearish EUR stance.

Market pricing suggests around -75bps in ECB rate cuts by year-end, but we anticipate four more cuts this year, bringing rates to 1.75%. While EUR/USD no longer reflects a negative risk premium from US tariffs, we see more downside ahead, forecasting 1.02 by quarter-end.

GBP: Strong Jobs Data vs. Rate Cut Expectations

The Pound-to-Euro exchange rate climbed to 1.2050 after the ONS reported that UK unemployment held steady at 4.4% in December, defying expectations for an increase.

Wages grew 5.9% year-on-year, in line with forecasts but marking the fastest increase since April 2024. Including bonuses, overall pay rose 6.0%, surpassing expectations. In response, GBP/USD briefly touched 1.2619.

“The UK labour market tightened more than expected over Christmas, but we fear this may be the last festive surge before a tough spring,” says Nicholas Hyett, Investment Manager at Wealth Club.

While this data increases pressure on the Bank of England to delay rate cuts, markets remain positioned for easing. The BoE recently cut rates by 25bps, with two policymakers favoring a larger 50bp cut. However, persistent wage pressures could lead the central bank to adopt a more cautious approach.

*All rates shown are indicative of interbank rates and should only be used for indication purposes only. It is important to note that foreign exchange rates fluctuate and that rates may vary depending on the amount and the base currency that is purchased or sold. Rates are correct as of 8:00am UK time. CentralFX are not responsible for the rates shown.