G10 FX Talks: Refuting the Fed story. G10 FX Talks: Refuting the Fed story

EUR/USD: Moving higher
• It was hard work, but EUR/USD managed to climb higher. Seasonal factors in December may have had an influence, but the main driver was a decline in short-term interest rates, thereby reducing hedging costs for foreign investors in the US bond market. Remember, eurozone investors own around EUR800 billion of Treasury bonds and EUR1.5 trillion of other US debt securities.
• Given the dollar’s poor performance as a safe-haven currency in April, we expect investors to use lower US interest rates to increase hedge ratios. We expect three Federal Reserve cuts from now on.
• The European Central Bank must keep its policy interest rate unchanged for the next two years. Fiscal stimulus and energy cuts will help the euro.

USD/JPY: The undervalued yen may remain undervalued
• Many are asking why USD/JPY remains bid, even though the US-Japan interest rate differential is already much lower. The answer appears to be a combination of fiscal concerns, politicians supporting reflation policies, the carry trade, and possibly direct Japanese investment into the US.
• However, we think that a reduction in US interest rates will have a positive impact on the Japanese buy side, where we expect a shift to hedged versus unhedged foreign bond investments.
• We were asked whether the JPY is losing its appeal as a safe-haven. We answer ‘no’, because the positive risk environment has not been properly tested. We will support the yen if the AI ​​bubble bursts.

GBP/USD: Budget event risks persist
• Sterling is enjoying a minor revival after Chancellor Rachel Reeves managed to deliver a credible budget. Fiscal headroom of £22 billion means there will be less panic in the Gilt market if growth disappoints. However, there are still major political risks for UK asset markets in the first half of 2026, with Prime Minister Keir Starmer and Chancellor Reeves still under pressure.
• We expect sterling to weaken again if the Bank of England cuts interest rates on December 18, as we expect. Governor Andrew Bailey is a swing voter and may have seen enough to support a 25bp rate cut.
• We expect the BoE to make two further interest rate cuts in 2026 (in line with Fed policy) with GBP/USD likely to stay in the middle range of 1.31-1.37.

EUR/JPY: Reaching the limit?
• EUR/JPY is still very strong at levels above 180. Japanese politics has been a driving force in this quarter and it is dangerous to reach a top in this pair. Typically, it correlates well with global equity markets and when a major correction occurs, EUR/JPY is likely to trade much lower.
• Until then, EUR/JPY is expected to trade near the 180 level. We expect the Bank of Japan to raise interest rates by 25bp on December 19 and then expect two more hikes in the second and fourth quarters of next year. This should help limit gains above 180 in the pair – but not provide a decisive turn.
• The yen is much more undervalued than the euro, but we think 2026 could be a year of low volatility that keeps the yen weak.

EUR/GBP: Downside seems limited
• EUR/GBP has recently weakened due to sterling short pressure. We doubt sterling needs to strengthen too much. We expect good demand to re-emerge in the 0.8700/8750 area as the BoE raises the policy rate from 4.00% to 3.25%. Wage and price pressures in the UK are slowing and should create a better environment for the BoE to make cuts early next year.
• On the eurozone side, the million-dollar question is whether fiscal stimulus is real. Our team believes the question is when, not if, stimulus will be delivered and eurozone growth will gain momentum throughout the year.
• Politics is a worry for sterling – and it’s not exactly cheap.

EUR/CHF: SNB hopes no need to make cuts
• EUR/CHF holds above this year’s low of 0.92 but is unwilling to move higher. Despite pressure from Washington, it is difficult to see a ceasefire in Ukraine in the near future and therefore a big rise in EUR/CHF based on a peace deal seems unlikely. On the contrary, we think the CHF is receiving continued support from global investors who are losing faith in fiat currencies and government bonds.
• The Swiss franc was undoubtedly very strong and kept the CPI lower than the Swiss National Bank wanted or expected. However, the bar for the SNB to lower interest rates is very high. Such an outcome seems unlikely unless the ECB springs a surprise with a new round of quantitative easing.
• A European recovery next year is the best hope for a EUR/CHF rally, given the SNB’s room for FX intervention is limited.

EUR/NOK: Good seasonality for NOK
• Norway’s core inflation jumped to 3.4% in October as the headline inflation rate slowed compared to expectations to 3.3%. While this acceleration may only be temporary, it is likely to keep Norges Bank hawkish in the new year.
• Our view on inflation remains softer than Norges Bank’s view in 2026, and we still expect two or three rate cuts in 2026 to occur. Nonetheless, the risks clearly point to fewer and slower reductions.
• NOK lagged behind G10 countries in the past month due to risk volatility and oil depreciation. However, we are entering a seasonal bad period (Dec-Jan) for EUR/NOK, and we expect it to return to 11.50-11.60 in February thanks to NOK’s strong fundamentals and attractive carry.

EUR/SEK: Gradual depreciation may continue
• Despite sub-consensus inflation reports in Sweden in November, chances of a rate cut by the Riksbank remain low following a pre-emptive cut of 25bp to 1.75% in September.
• The krona has shown relatively good resilience during the risk-off period in November, thus reaffirming its improving stability. If a peace deal in Ukraine is ultimately agreed, the benefits for the krona will be obvious in USD/SEK, but less so in EUR/SEK given the euro’s geopolitical exposure.
• We continue to expect EUR/SEK depreciation to continue in line with medium-term overvaluation and improving prospects for the Swedish economy.

EUR/DKK: Approaching intervention territory
• EUR/DKK continues to trade in a strong position, but the Danish central bank again refrained from intervening in the forex market in November.
• However, we are still far from levels that would allow a forex sell-off to support the krone. Using the intervening round of late 2019 – early 2020 as a benchmark, the figure of 7,470 may be an appropriate cutoff.
• We therefore think EUR/DKK will not be able to trade much higher from here. The central bank has enough power to intervene considering the huge increase in foreign exchange reserves to USD 115 billion.

USD/CAD: Does not rule out the possibility of a decline in 1Q26
• The positive surprise in third-quarter Canadian GDP (2.6% y/y) was primarily due to a large increase in trade. However, household spending fell 0.4%, indicating that underlying conditions remain weak and more in line with the Bank of Canada’s business survey.
• Employment figures also surprised positively, with unemployment falling sharply to 6.5%, with 54K jobs added in November. We expect unemployment to rise, but for now, the BoC is unlikely to signal additional easing.
• A rate cut in 2026 is still possible, although at this stage a rapid reduction in employment is required. Our main concern for the Canadian dollar remains the upcoming USMCA renegotiation, and we are reluctant to chase further USD/CAD losses.

AUD/USD: RBA cuts may be over
• We had reached the AUD/USD year-end target of 0.66 a few weeks earlier. The risks remain skewed to the upside (seasonality, poor US data), although our short-term fair value suggests that the pair is now overvalued by more than 1%, which signals a lot of positives in price, for now.
• We have revised our recommendation to the Reserve Bank of Australia and no longer expect a rate cut in 2026. A spike in inflation in October, in our view, will make policymakers more cautious about easing, especially when coupled with good growth and a still-tight labor market.
• Good carry and strong fundamentals still show AUD/USD appreciation throughout 2026.

NZD/USD: In a more stable position
• The Reserve Bank of New Zealand cut interest rates hawkishly in November, in line with our expectations. Interest rate projections clearly signal that 2.25% is currently the terminal rate, and although there are some risks on the dovish side related to the takeover of new Governor Anna Breman (the former dovish Riksbank), we agree with the RBNZ’s call.
• There is a clearer picture that interest rates have finally bottomed out after a number of dovish surprises laid the groundwork for further support for the New Zealand dollar in 2026, assuming risk sentiment stabilizes.
• We have revised our NZD/USD profile slightly higher but still see the Aussie dollar as a more attractive currency in the middle of next year.

Source: ING