FX market participants vary from those looking at intraday moves to multi-year trends. For those interested in how many professionals do this, Michael R. Rosenberg’s ‘Currency Forecasting’ book still offers a useful primer, despite the 1995 printing. One input that we look at are interest rates. The long-term monthly charts below show the spread between the 2, 5 and 10-yr. German and US bond yields, and the EUR/USD rates (spread in red and EUR/USD in black lines). Trading the EUR/USD on every inflection in the yield spread would probably not give a big positive result. But as a guide to what funds and corporates (who often use the bond and swap spreads in their currency overlay and hedging models) are thinking, it can help. There can be considerable lead and lag times of course!
The spread in the 2-yr. bond yields (below) shows a general tendency to move together.
The 5-yr. bond yield spread (chart below) shows that for the most part the rate lines track each other.
The 10-yr. bond yield spread (chart below) also shows that the rates track pretty well for the most part.
What lies ahead? Our view on rate spreads is that they will probably stay around current levels but the market is leaning hard on US yields potentially rising a lot vs. German yields over the coming years. If this doesn’t happen, the EUR/USD would be expected to rise accordingly. The Trump tariffs have been expected to lift inflation in the US. This could prevent the Fed from continuing their rate cut plans and even push them to raise rates under certain circumstances. A lot of this is probably priced into the FX market though.
Can the EUR/USD rise even if US bond yields do stay high or even rise further? The answer partially depends on why US bond yields are rising of course. Most fundamental observers of the USD have to subscribe to the ‘exorbitant privilege’ of the USD as expressed by De Gaulle in the 1960’s. Despite having a lot of economic fundamentals that can draw economists into really being USD bearish, the USD is the backbone of the global payment systems and USD assets are key reserve holdings to the point that models use US Treasury bills as the proxy for ‘risk free’ rates. If this is called into question of course, higher rates may not help the USD.
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