The Euro
FX traders are facing a monumental recalibration as the ECB prepares for its next move. Germany’s seismic fiscal shift has fueled the euro’s rally, but the real test will come in April when the ECB must decide whether to continue cutting rates or adjust to Europe’s new spending reality.
The ECB has now hardened its stance, shifting from calling the policy “restrictive” to “meaningfully less restrictive.” That’s a subtle yet significant shift in tone—a signal that cuts are still on the table but not necessarily a done deal. Markets are pricing in a 2.0% ECB rate by year-end, but with inflation risks from potential US-EU tariff wars and a tidal wave of fiscal stimulus, the ECB may slam the brakes sooner than expected.
The hawks are already circling. Isabel Schnabel and her crew argue that massive German infrastructure and defence spending is raising the neutral rate (r* ), meaning fewer cuts. If they get their way, markets betting on aggressive ECB easing might be blindsided.
The bond market is already making its move—German 10-year bund yields have spiked 50 basis points in a week, as traders price in heavier borrowing. This tightening in financial conditions might do some of the ECB’s dirty work for them, reducing the need for deeper cuts.
So, what does this mean for the euro?
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If the ECB sticks to the plan and cuts, EUR/USD could stay rangebound, but the downside should be cushioned if the Fed remains on an easing path.
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If the ECB pivots hawkish in response to spending and bond market repricing, we could see the euro pushing toward 1.10 or beyond.
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If US tariffs hit, growth worries will mount—but if Europe retaliates, inflation fears could limit downside in the euro.
On the U.S. side of the EUR/USD equation, we remain in the dip-buying camp rather than selling rallies despite sticky US inflation. This week’s CPI report is expected to deliver another “hot” 0.3% MoM print, but inflation remains well above the 0.17% MoM average needed to land at 2% YoY. That means the Fed isn’t budging anytime soon, and with the March FOMC set to be a non-event, traders are left to decipher how Trump’s policies will shape the macro landscape.
But here’s where things get interesting. While inflation is still sticky, the Doge effect (Trump’s sweeping government job cuts) is about to appear in the data. Job losses in the federal workforce are already climbing, but the more significant risk is in the private sector—specifically, contractors tied to government spending. If these cuts accelerate, the broader employment picture could start looking a lot shakier.
Then there’s the tariff wildcard. Growth expectations could take a hit if price hikes start eating into consumer spending power. That’s why we continue to position for rate cuts to resume in Q3, even if the Fed keeps playing the waiting game for now.
Trading takeaway? While short-term rate differentials still lean in the dollar’s favor, the structural forces at play—slower growth, fiscal tightening, and Trump’s economic unpredictability—mean EUR/USD dips remain buyable. The Fed will eventually have to reprice reality; when that happens, the next leg higher in the euro could be explosive.
The bottom line is that FX markets are in for a volatility spike. The ECB’s April decision is the next central inflection point, and traders positioning for a smooth euro ride may need to rethink their game plan.
The view (short term)
Just to reiterate my stance on the Euro being overvalued relative to the current yield play—this rally has all the hallmarks of momentum-chasing rather than fundamentals-driven positioning.
Goldman nailed it: “Based on our models, the Euro’s surge this week went far beyond its typical relationship with 1-year growth expectations, and to a lesser degree, the currency also strengthened more than can be explained by higher Bund yields.”
Translation? The Euro is running hot relative to macro fundamentals. Yes, the German fiscal bazooka injected fresh optimism, but let’s not ignore the fact that the ECB isn’t exactly shifting into hawkish mode. Meanwhile, U.S. rate cuts remain uncertain—still an “if” rather than a “when”—which means yield spreads haven’t adjusted nearly enough to justify this kind of move in EUR/USD.
But as FX traders, our job isn’t to react to what’s in front of us—it’s to look 6-8 weeks ahead and position accordingly. And right now? That forward view is foggy as hell.
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Tariffs? How big will they be on the EU?
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Washington’s “mini-recession” gambit? Is the White House really engineering a slowdown just to push the Fed into cutting rates?
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US-EU tensions? There’s bad blood brewing between Washington and Berlin—will the whole continent end up paying the price?
For now, I’m staying nimble and even although this market is begging for reversion, I can’t land on any probabilities today.
Asia forex
I initially expected USDJPY to test through 147 today, but here we are, knocking on the door of 148 as trade war fears resurface. The latest catalyst? A higher-than-expected PBoC CNH fix sent USDCNH climbing +200 pips, reigniting concerns over China’s economic fragility and potential currency depreciation.
Indeed, the PBoC has no appetite for a strong CNH while China remains trapped in an extended deflationary spiral with trade war alarm bells ringing. With 29 consecutive months of PPI contraction and domestic demand still on shaky ground, a weaker yuan acts as a critical pressure valve—keeping exports competitive while cushioning the blow from subdued consumer spending.
That’s why the higher-than-expected CNH fix turned heads—it’s a clear sign that Beijing is micromanaging the currency. But let’s be clear: a weaker CNH is inevitable. The real balancing act is keeping the devaluation controlled enough to avoid capital flight, yet weak enough to maintain trade competitiveness—all while dodging potential retaliatory fire from Washington’s trade hawks.
Meanwhile, uncertainty looms over the Bank of Japan, with traders laser-focused on the upcoming March 18-19 policy meeting. No immediate policy changes are expected, but the narrative is shifting—wages are rising, food prices are climbing, and inflation risks aren’t going away. The market is pricing in more BoJ tightening this year, but the real question is when—and whether the global trade war fallout forces them to rethink the playbook.
With global growth expectations dimming and tariffs muddying the inflation picture, it’s no longer just about the BoJ’s next move—it’s about whether the broader macro backdrop allows them to tighten at all.
Is Japan’s market plumbing clogging up?
Japan’s JGB auctions are spiralling from bad to outright dysfunctional, and it’s not just about the BoJ’s policy risks anymore—this is morphing into a global debt repricing event.
Last week’s 10-year auction was a disaster, posting the weakest bid-to-cover ratio since 2021, with a spiking tail that screamed investor reluctance. Now, the 5-year auction followed suit, hitting its worst demand since June 2022. And just to add fuel to the fire, Japan’s 40-year bond yield has surged to its highest level in history.
But this isn’t just about front-running the BoJ’s next move—the broader issue? Global capital is getting reshuffled.
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Germany has effectively torched its debt brake, opening the floodgates for deficit spending.
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Bund yields are surging, draining liquidity from JGBs as investors chase better risk-adjusted returns.
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Markets are finally waking up to Japan’s reality: it has the largest debt rollover burden in history.
For years, Japan’s debt load has been the elephant in the room, largely dismissed thanks to yield curve control (YCC) and a BoJ that could buy its own bonds at will. But with the global rate cycle shifting, markets are testing whether Japan can keep its bond market from buckling without pulling another YCC rabbit out of the hat.
The real question: Can Japan maintain control, or are we on the verge of a structural repricing that forces the BoJ’s hand sooner than expected?
I still think we will have a colossal VaR down the road at some point.
