Written by the Market Insights Team
Beyond the dollar: sterling’s homegrown momentum
George Vessey – Lead FX & Macro Strategist
It is true that much of the circa 8% year-to-date gains for GBP/USD has been driven by broad US dollar weakness, but it’s also true that since the start of the year, sterling exhibits a lower beta to declines in the dollar index than most of its G10 peers, meaning it’s less sensitive to dollar weakness. Moreover, there has undoubtedly been a more optimistic shift in GBP sentiment thanks to idiosyncratic sterling strength driven by UK trade deals, resilient domestic data and a relatively hawkish Bank of England (BoE).
The de-dollarization narrative continues to drive bullish sentiment for the pound and G10 currencies, as investors seek diversification. However, domestic factors have also played a key role in supporting sterling. UK data has largely been solid in recent weeks, evidenced by the UK Economic Surprise Index at an almost 1-year high. Recently we’ve seen retail sales posted strong gains in April, consumer confidence improved in May and inflation remains sticky – contrasting with the Eurozone’s disinflation trend. This reinforces the BoE’s more cautious stance keeping rate differentials in sterling’s favour. Markets are pricing about 56 basis points of cuts from the BoE over the next 12 months, versus 60 from an ECB that has already eased a lot more meaning the policy gap remains around 200bps in the UK’s favour and the pound may be poised for further gains versus the euro.
Trade agreements have also boosted sterling’s outlook. While the UK-US deal reduced tariff uncertainty, the UK has secured new agreements, including a Free Trade Agreement with India, and more crucially a reset with the EU providing further tailwinds for the pound.
The bottom line is that sterling’s momentum isn’t just a byproduct of shifting USD flows; it’s underpinned by some solid domestic fundamentals. This is reflected by the fact the pound has outperformed over 70% of a 50-currency basket in the past five months.
Diverging paths are a red flag
Antonio Ruggiero – FX & Macro Strategist
Since the infamous “liberation day” on April 2, the US dollar index (DXY) has fallen by 4.5%, while 10-year government yields have surged nearly 300 basis points. This divergence suggests that the higher yields demanded by investors are not attractive enough to draw them in, prompting capital to flow out of U.S. assets. As the chart below illustrates, the explanatory power of the 10-year yield on DXY movements was stronger before April 2 (with a higher beta of 1.54) than it has been since liberation day (beta of 0.81). This speaks to the lack of confidence in US assets and diversification away from the dollar.
Yesterday’s comments from Fed officials Kashkari and Williams confirmed the Fed’s “wait and see” stance, signaling no imminent rate cuts “until there is more clarity on the path for tariffs and their impact on prices.” Clearly, protecting long-run inflation expectations remains a top priority for them. Fed officials don’t seem to be the only ones waiting: US durable goods orders dropped 6.3% in April, unwinding a 7.6% rise in March, mostly due to a sharp 51.5% drop in commercial aircraft bookings. The data reflect growing business caution as companies await clarity on trade policy and tax changes while focusing on cost control.
Yesterday’s remarks might not sit well with President Trump, who finds himself caught between the Fed’s caution and the bond market’s pressure. This week’s tariff announcements on the EU provided a familiar pattern: disruptive tariff hikes push yields higher, only for Trump to dial them back shortly after, attempting to ease market tensions. While Trump’s moves are becoming more predictable than many initially expected, the still-elevated uncertainly – combined with growing concerns over U.S. debt sustainability – continues to erode the country’s reputation as the world’s premier reserve asset.
Euro defying weakness, seeking strength
Antonio Ruggiero – FX & Macro Strategist
Bullish momentum in the euro continues, driven by a deteriorating U.S. outlook, with EUR/USD up nearly 10% year-to-date. The erratic tariffs-on, tariffs-off behavior from Trump is now fueling a steady upward move in the EUR—contrary to previous cycles when similar developments would typically push the currency lower due to expectations of weaker global demand and lower interest rates.
In other words, the euro is increasingly acting as the preferred alternative to the U.S. dollar, regardless of whether these tariff announcements are inherently EUR-positive or not. EUR/USD is currently trading above its BEER-implied fair value of $1.1244, suggesting the possibility of medium-term adjustment pressures—particularly if the outlook for the U.S. improves. For now, however, that scenario seems remote. As my colleague George noted yesterday, sentiment remains tilted toward euro strength, with one-year EUR/USD risk reversals reaching their highest levels since 2003 (excluding the March 2020 spike).
Looking ahead, key inflation data is due Friday. In the euro area, deflationary concerns persist. Most economists agree that weak demand is likely to outweigh any inflationary pressures from supply bottlenecks. Low oil prices and a strong euro are compounding the downward pressure on prices. France’s meagre 0.7% year-on-year increase in May, released yesterday, could be an early indication of this trend.
A persistently dovish ECB means the current BEER-spot gap is likely to remain in place —though a reversal is still possible, should U.S. sentiment improve meaningfully.
Stocks extend rebound, gold falters
Table: 7-day currency trends and trading ranges
Key global risk events
Calendar: May 26-30
All times are in BST
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*The FX rates published are provided by Convera’s Market Insights team for research purposes only. The rates have a unique source and may not align to any live exchange rates quoted on other sites. They are not an indication of actual buy/sell rates, or a financial offer.
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