Dollar stays supported as FX markets weigh rates, risk and energy

Market overview

FX markets have opened the week with a mixed but increasingly active tone, as investors weigh stronger US growth, higher energy prices, shifting rate expectations and a still-resilient risk backdrop. The dollar remains well supported as Treasury yields rise and Fed tightening expectations build, but the broader picture is far from one-way. Higher-beta APAC and CEE currencies are also finding demand, while the euro lacks a clear catalyst and sterling remains caught between global rate moves and uncertainty over the UK policy outlook. Oil and geopolitics are adding another layer of complexity, keeping inflation concerns in focus and leaving currencies sensitive to both diplomatic headlines and changes in central bank pricing. With several major events ahead, there is plenty of scope for volatility to pick up from here.

USD: Rate expectations keep the dollar supported

The dollar continues to benefit from resilient US data, firmer oil prices and increasingly hawkish Fed expectations. Higher energy costs are adding to inflation risks at a time when policy is already restrictive, strengthening the argument that rates may need to remain elevated for longer.

Recent Fed commentary has reinforced that message. Chicago Fed President Austan Goolsbee has highlighted the risk of demand overheating, while Chair Warsh has pointed to an economy that continues to perform better than expected.

Fed funds futures are moving towards pricing roughly a 70% chance of an October rate rise. The closer markets move towards fully discounting another hike, the greater the pressure on policymakers to validate those expectations. Failure to do so could trigger a sharp fall in yields and an easing in financial conditions that may sit uncomfortably with the Fed's inflation objectives.

For now, stronger growth, firmer oil and higher long-end yields continue to provide a supportive backdrop for the greenback.

GBP: Sterling caught between tighter policy and softer growth

Sterling has started the week on a subdued footing, with performance across the G10 reflecting a mix of global forces. The pound is modestly firmer against several European currencies but has slipped against parts of the APAC complex as resilient risk sentiment continues to favour higher-beta currencies.

The domestic picture remains finely balanced. Last week's labour market and inflation data, followed by the Bank of England's decision to keep rates unchanged, reinforced the challenge facing policymakers as softer demand sits alongside persistent energy-driven inflation.

Markets are still pricing a relatively aggressive tightening path over the next 18 months, which leaves sterling vulnerable if incoming data fails to support those expectations.

Technically, GBP/USD remains under pressure after breaking below support in the low 1.34s. Oversold momentum indicators highlight the strength of the recent move, with the 100-week moving average near 1.32 the next major downside reference.

GBP/EUR continues to trade around the mid-1.16s, while the flattening 100-day moving average increasingly looks like a focal point for near-term price action.

EUR: Euro searches for direction

The euro remains relatively steady but continues to lack a strong domestic catalyst. Weakness against several Central and Eastern European currencies has been one of the more notable moves, with improving hopes for diplomatic progress supporting risk appetite across the region.

EUR/USD has edged lower, although the move appears to reflect renewed dollar demand rather than any significant deterioration in the euro outlook. The Fed's hawkish stance has returned to the forefront following the Bank of Japan's softer-than-expected policy signal last week.

With a large amount of US tightening already reflected in current pricing, a more substantial extension of dollar strength may require either a fresh move higher in oil or further repricing of the Fed path.

Diplomatic talks in New York remain an important near-term focus. Clearer signs of de-escalation in the Middle East could pressure oil prices and offer EUR/USD some support. For now, 1.1450 remains an important short-term level.

Looking ahead

• Fed pricing: Further movement towards an October rate rise being fully priced could keep the dollar supported.

• Oil: Energy prices remain central to the inflation outlook and could have a growing influence across FX.

• Geopolitics: Talks involving President Trump, Gulf representatives and other leaders at the UN will be closely watched for signs of de-escalation.

• US-China: Thursday's meeting between President Trump and President Xi Jinping could generate fresh volatility across currencies and broader risk assets.

• UK: Flash PMIs are the key domestic release for sterling later this week.

• Key levels: EUR/USD support remains around 1.1450, while 1.32 is the next significant downside area for GBP/USD.