USD: USD/JPY at 7-month low as yen momentum builds
USD/JPY’s slide continues, with the pair breaking below the lows reached during the joint Fed-BoJ intervention earlier this summer and moving south of the key 155 level.
There is no obvious catalyst, but rather a confluence of factors. The technical break itself is significant, while momentum has also played an important role. Recent headlines pointing to a more determined BoJ tightening cycle, tacit endorsement from the US Treasury, and speculation around repatriation flows from major institutions such as Japan’s Government Pension Investment Fund have all contributed to the yen’s strength.
A still-sizeable short JPY position, built up through the currency’s longstanding role as the market’s preferred carry-funding currency, has further amplified the move as those positions are unwound.
From here, the path to further yen appreciation looks more challenging. Beyond the political backdrop, much of the positive yen narrative now appears to be priced in, raising the bar for further gains. For the rally to extend meaningfully, expectations for a faster-than-anticipated BoJ hiking cycle, perhaps one hike every three months, would need to materialise.
In the short term, a Fed hike next week looks like the clearest challenge to bullish yen momentum, as a stronger dollar would typically weigh on low-yielding currencies. Conversely, a hold would likely reinforce the current downtrend in USD/JPY.
Markets continue to price roughly a 60% probability of a Fed hike next week, with Friday’s August CPI report likely to prove decisive.
With US markets closed for Labour Day yesterday, the decline in DXY may have appeared more pronounced despite the lack of a clear catalyst. We see buying interest emerging around 98.50/70 ahead of Friday’s release, though further yen-positive headlines could test that view.
EUR: Weak German output, ECB in focus
July German industrial production disappointed, falling 1.1% m/m versus expectations of a 0.2% rise, while declining 1.6% y/y compared with forecasts for flat growth. The figures serve as a reminder that the recovery path remains uneven, with summer heatwaves and transport disruptions along the Rhine likely contributing to the weak outcome.
The setback appears largely seasonal in nature, while fiscal stimulus should continue to provide a meaningful offset through 2027.
The euro was largely unfazed by the release as attention shifts to Thursday’s ECB policy decision. With a rate hike priced with near certainty, markets will focus instead on President Lagarde’s press conference for clues on the path ahead.
We see moderate downside risk for the euro, given the still-hawkish ECB path embedded in market pricing. Markets continue to price nearly two additional hikes by the end of 2026, implying a second move after Thursday either in October or December.
We believe the ECB may prefer to wait and assess incoming data, as further tightening would start pushing policy into restrictive territory and risk weighing on growth. Any indication from Lagarde that energy price pressures continue to show limited spillover into broader inflation, coupled with an emphasis on a data-dependent approach, could be enough to trim the hawkish build-up and weigh modestly on the euro.
GBP: UK fiscal reality beckons
Yesterday, Chancellor John Hailey delivered his first major speech since taking charge of the UK’s finances. He made sure markets were listening, reiterating his and PM Burnham’s shared commitment to restoring the UK’s credibility in international bond markets.
Alongside fiscal discipline, he also identified economic growth as one of his top priorities.
Against promises, the reality is that borrowing costs have surged to multi-decade highs in recent weeks, eroding the government’s fiscal headroom and fuelling expectations of further tax rises at the Autumn Budget.
If fiscal discipline is to be a more palatable term for restraint, the obvious question is how it squares with promises of stronger growth and transformational change (examples are devolution to the north, nationalisation). The memory of Reeves remains fresh: taxes were raised in the Autumn Budget 2024, yet growth disappointed throughout 2025 while long-end gilt risk premia continued to move higher.
Markets continue to give the new administration the benefit of the doubt, for now. As the Autumn Budget approaches, that forgiveness is likely to fade, leaving gilts and sterling vulnerable to downside risks.
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Calendar: September 7-11
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