The US president has issued new threats against Iran, but Iran isn't taking them seriously. Market participants have gotten used to Trump's rhetoric, which isn't going to help resolve the current stalemate. This is supporting demand for the dollar as a safe-haven asset. Let's analyze the situation and make a trading plan for the EUR/USD pair.
The article covers the following subjects:
Major Takeaways
- Global bond yields are rising.
- The Fed may lose control.
- The markets are underestimating the ECB.
- Short trades on the EUR/USD pair can be opened with targets at 1.144 and 1.138.
Weekly Fundamental Forecast for Dollar
The rally in Brent crude prices, driven by the conflict in the Middle East, has heightened inflation expectations and pushed global bond yields higher. Yields on Japanese bonds have reached their highest levels since 1999, boosting their appeal and prompting capital repatriation. At the same time, Japanese investors are selling Treasuries and other securities, further boosting their yields. All these factors benefit the US dollar.
US Treasury Yield
Source: Bloomberg.
The US bond market is starting to run wild. According to Yardeni Research, if the Fed does not shift its rhetoric to a hawkish stance in this situation, it may lose control. In essence, monetary tightening is already underway, as mortgage rates and other loan and credit rates depend on Treasury bond yields. The central bank should simply accept this new reality; otherwise, it may find itself out of the game.
The eurozone is a different story, with a weak economy that is heavily dependent on energy imports. The futures market is mistakenly expecting two or three rounds of monetary tightening from the ECB in 2026. The slowdown in PMIs across the currency bloc in May will confirm this error. The European Central Bank will likely opt for caution, and the more investors realize this, the lower EUR/USD quotes will fall.
Eurozone Inflation and Composite PMI
Source: Bloomberg.
As a rule, flawed assumptions lead to inaccurate predictions. For example, Morgan Stanley expects the euro to rise to 1.23 against the dollar by the third quarter — a level last seen in early 2021. The key argument behind this forecast is the anticipated decline in hedging costs for European investors holding US securities. According to this view, a more aggressive rate-hike cycle by the ECB relative to the Fed would reduce the cost of currency risk hedging, potentially driving about $214 billion in hedging flows into the EUR/USD pair.
However, as long as the Strait of Hormuz remains blocked, oil prices will continue to rise. The US is trying to force Iran to give up what it failed to obtain through military action, an approach that always leads to a dead end. The tactic of threats does not work. No matter how much Donald Trump says that the clock is ticking and Tehran has to act quickly or face total annihilation.
The decline in EUR/USD quotes appears well-founded against the backdrop of the futures market underestimating the Fed's ability to raise the federal funds rate and overestimating the ECB's resolve. Coupled with support for the US dollar as a safe-haven asset and rising oil prices, the euro is poised to decline.
Weekly Trading Plan for EUR/USD
The EUR/USD pair has reached the first bearish target of 1.1615 for short positions opened at 1.178 and lower. The second target of 1.156 is in sight. New short positions can be considered on upswings. At the same time, the major currency pair may slide to 1.144 and 1.138.
This forecast is based on the analysis of fundamental factors, including official statements from financial institutions and regulators, various geopolitical and economic developments, and statistical data. Historical market data are also considered.
Price chart of EURUSD in real time mode
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