Dollar strength sets the tone as Q4 begins

Market overview

FX markets begin the fourth quarter with the dollar firmly in control, backed by rising US yields, resilient American growth and a widening rate advantage over its major peers. Sterling has held up better than the euro, helped by easing domestic political concerns and renewed discussion around closer UK-EU ties, while the single currency remains under pressure from a combination of French fiscal risk, higher energy costs and the relative strength of the US macro backdrop. With global bond yields elevated and central banks still leaning hawkish, interest-rate differentials remain the dominant force across G10 currencies.

The broader picture is one of increasingly selective currency performance rather than a simple risk-on or risk-off market. Investors are balancing persistent inflation pressures against pockets of softer data, while political and fiscal risks are becoming more influential in Europe and the UK. Oil remains elevated, long-dated yields are pushing higher and volatility could build as markets move towards Friday’s US payrolls report. For now, the dollar continues to enjoy the clearest combination of yield support and economic resilience.

USD: Yields keep the dollar in command

The dollar remains close to 18-month highs, with DXY supported by another move higher in Treasury yields. Ten-year yields are trading around 5.3%, while the 30-year is near 5.6%, leaving the long end at levels last seen more than two decades ago.

August PCE inflation came in slightly softer than expected, prompting markets to trim expectations for an October rate increase. However, the reaction has been limited. Strong activity data, a resilient labour market and continued inflation risks mean further Federal Reserve tightening remains firmly on the table.

Importantly, the rise in yields extends beyond inflation alone. Heavy Treasury issuance, fiscal concerns, elevated energy prices and strong investment linked to AI are all contributing to higher term premia.

Oil remains another important input. Brent has eased towards $97 a barrel but remains historically elevated, while limited progress in US-Iran negotiations continues to leave energy-related inflation risks in focus.

Today’s attention turns to initial jobless claims and ISM manufacturing. A firm ISM reading would reinforce the view that US growth remains broad-based and could offer the dollar another layer of support. A number of Federal Reserve speakers are also due to appear.

GBP: Sterling finds relative support

Sterling enters Q4 in relatively resilient shape despite the continued strength of the dollar. GBP/USD has spent much of the year confined to a narrow 1.31 to 1.38 range, with higher US yields now pulling the pair back towards 1.32.

The pound has nevertheless outperformed the euro, with GBP/EUR recovering above 1.17 to its strongest level in more than six weeks. Some of that resilience reflects reduced concern around UK political risk following Prime Minister Andy Burnham’s Labour conference appearance, alongside his emphasis on fiscal discipline and a longer-term approach to spending.

Attention has also turned to the UK’s future relationship with Europe. Burnham has said the government intends to consider a range of options for closer UK-EU integration, including deeper trading arrangements and potentially, over the longer term, EU membership itself. Any economic implications remain highly uncertain at this stage, but markets are likely to watch the issue increasingly closely as discussions with Brussels develop.

The near-term test for sterling is likely to be fiscal rather than monetary. The 28 October Autumn Budget will place greater scrutiny on the government’s plans at a time when higher borrowing costs are already reducing fiscal headroom. A deterioration in confidence around the public finances could place simultaneous pressure on gilts and the pound.

EUR: Political risk returns to the spotlight

The euro closed September near 1.135 against the dollar, its weakest level since May 2025, after recording its largest monthly decline in more than a year. Despite renewed ECB tightening, the currency continues to struggle against the dollar’s stronger yield profile and more resilient economic backdrop.

Domestic European risks are also becoming harder to ignore. The widening spread between French and German government bond yields has brought fiscal concerns back into focus, adding another headwind for the single currency and helping to explain why stronger eurozone data has generated relatively little FX support.

Weakness is increasingly evident in the crosses, with EUR/GBP moving lower as sterling benefits from an improved domestic political backdrop. Options activity also points to continued demand for downside euro protection, suggesting positioning remains cautious rather than simply reflecting the unwinding of earlier longs.

The ECB raised rates by 25 basis points in September and continues to emphasise persistent inflation risks, with the deposit rate now at 2.50%. President Christine Lagarde and Executive Board member Isabel Schnabel are among the ECB officials speaking today, keeping the focus on how firmly policymakers intend to maintain their tightening stance.

EUR/USD may find some initial support around 1.1300 to 1.1320, but a further widening in French-German spreads combined with strong US data would leave the lower end of the recent range vulnerable.

Looking ahead

• US initial jobless claims: A further sign of labour-market resilience would reinforce the dollar’s yield advantage.

• US ISM manufacturing: Markets will focus on the headline index alongside prices paid, new orders and employment.

• Fed speakers: Any pushback against the recent reduction in October hike expectations could support US yields.

• ECB commentary: Lagarde and Schnabel are in focus as markets assess how far European tightening can extend.

• Friday’s US payrolls: The key event risk for the week and potentially decisive for near-term Fed expectations.

• EUR/USD: 1.1300 to 1.1320 remains the immediate area to watch on the downside.

• GBP/USD: Dollar strength continues to dominate, while UK fiscal credibility remains increasingly important ahead of the Autumn Budget.