USD: Fed steady, nerves not

The Federal Reserve kept rates at 3.50–3.75% at the first meeting of the year. The vote shifted to 10–2, with Waller and Miran still backing a cut, reinforcing a broad Committee view that the economy is in better shape, the labour market is steadier, and inflation remains a little too firm for comfort. The statement and tone were broadly as expected, and there were no comments on the Department of Justice legal dispute, which left markets with little fresh to price.

Price action told its own story. The dollar index struggled to hold pre-meeting gains, suggesting policy and political uncertainty remains a bigger weight than the macro picture the Fed effectively endorsed. We still look for the dollar to recover towards macro-implied fair value over the short to medium term, but the near-term signal is that investors need more than a steady Fed to rebuild conviction.

Treasury Secretary Bessent did provide a timely circuit-breaker. His clear pushback on the idea of the Fed joining Japan in yen-support operations, alongside a reiteration of a strong-dollar stance, helped calm fears of an administration-led drive for a weaker currency. That lift arrived before the Fed and did most of the work for the session.

The broader backdrop remains USD-negative. DXY is sitting around the low end of the 96 handle, a zone only visited a handful of times since early 2025. Shutdown risk is back in focus, and Iran-related headlines are adding to caution. Without de-escalation on either front, it is hard to see the dollar reclaiming materially higher levels.

GBP: Dollar weakness does the heavy lifting

Sterling is edging higher again against the dollar after a brief pullback from multi-year highs. The muted post-Fed USD bounce reinforced how one-sided momentum has become, and it keeps a move towards 1.40 in GBP/USD on the table even without standout UK catalysts.

Away from GBP/USD, the picture is less flattering. Sterling is softer against most of G10, with GBP/EUR broadly steady near 1.15. That cross has remained one of the calmer G10 pairs, but the risk balance still leans gently against sterling over coming months.

Valuation looks broadly fair, so the next leg is likely to come from policy and politics. The Bank of England is the obvious risk, with the hurdle for dovish surprises relatively low. The upside scenario is a gradual shift in the UK narrative if the labour market steadies and easing starts to look more like pro-growth insurance than recession response. Not the base case, but worth keeping in mind into the second half of the year. Domestic politics is the other watchpoint, with the May local elections capable of reintroducing a fiscal risk premium that could pull GBP/EUR back towards 1.12.

EUR: Overbought unwinds, policy sensitivity caps topside

EUR/USD fell close to 1% ahead of the Fed as stretched positioning and overbought technicals finally corrected. Rate differentials offered little support, and investors remain wary that an overly strong euro could complicate the ECB’s path by further damping inflation.

We think it is too soon for the ECB to actively lean against euro strength in its policy reaction function, but officials remain sensitive to the exchange rate. Villeroy’s comments that the euro will help “guide” policy, alongside Chancellor Merz flagging concern about the exchange rate, underlined that sensitivity and helped cap the latest rally, particularly above the 1.2100 area.

Our bias is that 1.20-plus levels are unlikely to be sustained in the short to medium term. Even so, the latest pullback looks more like a reset after a crowded move than a regime change, and we still see scope for the pair to finish the week north of 1.19.

Looking ahead

• US shutdown headlines and Iran-related developments remain the clearest near-term USD drivers.

• Watch whether DXY can stabilise above the low-96 area; failure would keep downside pressure alive.

• For EUR/USD, the key question is whether the correction stays orderly or turns into a deeper de-risking move.

• GBP/USD remains primarily a dollar story for now; UK data will matter more once USD selling exhausts.

• UK politics is a latent risk for GBP/EUR into the May local elections, with 1.12 a plausible downside magnet if fiscal concerns resurface.