The war in the Middle East continues to disrupt flows from the region and helps shape risk appetites. After falling by almost 14% in the last two weeks of May, July WTI rose about 4.5% last week as there seemed to be little progress toward a resolution. The odds that Strait of Hormuz on Polymarket seem more cautionary and stable than the vagaries of the capital market and oil futures. On that event cite, there is about 18% chance that the Strait is opened by the end of June and about 36% it is opened by the end of next month.
Meanwhile, monetary policy is also in play. The Bank of Canada and the European Central Bank meet on Wednesday and Thursday, respectively. Even though revisions at the end of last week showed the regional economy contracted in Q1, the market is highly confident that the ECB will hike rates and signal that it will remain vigilant, i.e., that it is prepared to raise rates again. The deposit rate will stand at 2.25% at the end of next week. On the other hand, there is practically no chance that the Bank of Canada changes its 2.25% policy rate. The Canadian economy unexpectedly contracted in Q1 26, the second consecutive quarterly contraction. Still, ahead of the weekend, Canada reported an increase of 154k full-time positions in May and a drop in the unemployment rate to 6.6% from 6.9%. Canada and the EU-harmonized CPI baskets are quite different, yet Canada's April headline CPI was 2.8% and its core rate was at 1.5%, and its underlying core measure average about 2.05%. The eurozone's May CPI was 3.2% and the core 2.5%.
U.S.
Drivers: The greenback remains sensitive to geopolitical developments, and when news gives reason to be hopeful of an extended ceasefire, the dollar is typically sold. In terms of financial variables, the 30-day correlation of changes in the Dollar Index and the two-year US yield is around 0.75, near the highest since late 2016. The correlation of changes in the Dollar Index and the US 10-year is also near 075, the highest since the end of 2024. Last month, the rolling 30-day correlation of changes in the Dollar Index and S&P 500 reached almost -0.75, its most extreme since Q4 22. It is now closer to -0.65, which is more extreme than seen in 2025.
Data: The most important high-frequency US data point is the mid-week release of May CPI. The median forecast in Bloomberg's survey is for a 0.5% rise in the headline rate and 0.4% in the core. Given the base effect, the year-over-year rates will likely rise to about 4.2% (from 3.8%) and to 3.1% (from 2.8%), respectively. This may understate the price pressures. Assuming the median projections are accurate, it would translate into a 6% annualized pace of headline inflation in the first five months and 3.6% annualized pace in the core. That is a week before the conclusion of the first FOMC meeting that Warsh chairs, at which a new Summary of Economic Projections will be presumably released. The day after the CPI report, the May PPI is due. For understandable reasons, the market reacts less to PPI than CPI. After surging 1.4% in April, a more modest but still strong rise of 0.5% is expected. That would lift the year-over-year rate to 6.2% from 6.0%. The April trade balance is also due. We already know that the goods surplus narrowed a little. While the US runs a chronic goods deficit, its service surplus is just as persistent. While China, with about 17% of the world's population accounts for about 14.5% of the world's exports, the US accounts for a little more than 4% of the world's population and 13% of global service exports. Throughout the industrialized and many emerging markets, the service sector provides for more jobs than the manufacturing sector. The May federal budget deficit will be reported, too. Through April, the cumulative deficit is about 9% smaller than the year ago period, through the shortfall in the first four months of the calendar year is about 4% larger.
Prices: The strong May jobs growth and the backing up of market rates lifted the Dollar Index to two-month highs ahead of the weekend, about 100.10. It posted an ostensibly bullish outside up day by trading on both sides of the previous session's range and closing above it high. The next technical target may be the year's high was recorded at the end of March, near 100.65.
EMU
Drivers: With a few exceptions, the euro has been mostly in a $1.16-$1.18 trading range since around April 20. It broke decisively lower ahead of the weekend and after the US employment data. The euro's inverse 30-day correlation with changes in the two-year US yield is near -0.82, the most extreme in more than 20 years. Ironically, the correlation of changes in the euro and Germany's two-year yield is also inverse and around -0.65, it is near the most extreme in six years. The correlation between changes in the euro and the two-year interest rate differential is about 0.10 over the past 30 sessions.
Data: Germany reports April factory orders, industrial output, and trade figures ahead of the ECB meeting on Thursday, June 11. German factory orders jumped 5% in March after a 1.4% increase in February. Yet, industrial output has disappointed. It fell by 0.7% in March after a decline of 0.5% in February. On the other hand, Germany's trade surplus is holding up better than one might expect given the China shock memes. German recorded an average monthly trade surplus in Q1 26 of 18 bln euros, the same as in Q1 25. Meanwhile, the market is confident that the ECB will hike rates. The swaps market has another hike fully discounted in the fourth quarter.
Prices: The euro was turned back from the 20-day moving average (~$1.1645) even before the stronger-than-expected US jobs data sent the single currency below last month's low near $1.1575. It slumped a little through $1.1520. Initially, the $1.1500 area may offer support , but a move back to the year's low set in mid-March a little above $1.1400 cannot be ruled out. Reestablishing a foothold above $1.1600 is needed to begin repairing the technical damage.
Japan
Drivers: Near 0.85, the 30-day rolling correlation of changes in the dollar-yen exchange rate and the Dollar Index, it is near the best level since early Q4 25. The correlation between the exchange rate and the changes in the US 10-year yield has drifted lower from the year's high in late April near 0.65 to a little above 0.50. The correlation between the exchange rate and Japan's 10-year yield is less than 0.05 and has not been above 0.40 since mid-2024. The correlation of the exchange rate and the 10-year interest rate differential is a little below 0.50. It was briefly inversely correlated in December last year. The threat of intervention after a record operation in late April through early May has also injected a new element into the mix.
Data: Ahead of the BOJ meeting conclusion on June 16, Japan offers up a revision of Q1 GDP, April's current account, and May producer prices. The data is unlikely to impact expectations that the central bank will hike rates. The initial estimate of Q1 GDP (2.1% annualized vs. 0.8% in Q4 25) was stronger than expected. While Japan runs a current account surplus and has a currency that is undervalued, it has been running a trade deficit. That is changing. The swaps market has almost an 80% chance of a hike later this month, and around a 70% chance of another before the end of the year. Paradoxically, the US Treasury Secretary has encouraged a BOJ hike, yet its core inflation has been below target for the three months through April, and its headline rate is less than half of the US, but the administration has argued for lower US policy rates.
Prices: The dollar reached a new high since the late April BOJ intervention after the US employment data near JPY160.35. The high set April 30 was JPY160.70. The dollar reached a high in March around JPY160.45. The momentum indicators are higher now than when the BOJ intervened at the end of April. The US two- and 10-year yields are around 25 bp higher than at the end of April. The chances of a BOJ rate hike this month was seen as a 65% chance in the swaps market at the end of April and is now about 95% discounted.
PRC
Drivers: Assuming rational actor, one must conclude the Beijing is allowing the yuan to appreciate against the dollar and its trade-weighted basket because it is understood to be in its interest. One can speculate about what interests are being served. There are a few candidates: Deflect some animosity of its historically large trade surplus, make the acquisition of foreign financial and real assets cheaper, and encourage domestic capital to stay at home, as Beijing checks outbound capital flows. At the same time, the rolling 30-day correlation of changes in the Dollar Index and the dollar against the offshore yuan reached at least a 10-year peak in late April near 0.85 and has eased to about 0.68 now. This is still the upper end of its long-term range. Recall that in late January it fell to below 0.05 and last year, it was even inversely correlated briefly.
Data: China reports two time series for which the markets and the media are particularly sensitive. The first is trade. The May trade figures are due. Through April, the China's trade surplus is about 4% smaller than in the first four months of 2025. While we recognize the yuan is undervalued, the 20% magnitude that some economists and banks suggest, does not appear extreme given the greenback's over-valuation against serval major currencies. The OECD's measure of purchasing power parity estimates the yen is more than 60% undervalued, the euro 30% and the Canadian dollar 20%. And the claim that a rising yuan will allow other Asian currencies to appreciate is not borne out in the price action in recent months. Moreover, some economists claimed that China was exporting deflation. Yet, what has happened is opposite. China's inflation gap with other countries has narrowed, not because others converged with China, but China's consumer and producer prices have risen.
Prices: The yuan is entering a consolidative/corrective phase after trending higher since the end of March. It had spent most of March consolidating. The greenback posted an outside up day against the offshore yuan and settled above the 20-day moving average (~CNH6.7875) for the first time since the end of April. The dollar's high from the second half of May was around CNH6.82 and this may be a reasonable initial target.
UK
Drivers: Sterling's correlation with the euro over the past 30 sessions is near 0.87. It has rarely been higher in the past decade. The 60-session rolling correlation is 0.90, which matches the late 2023 correlation, and the highest in at least two decades. Changes in sterling are inversely correlated with changes in US two-year yields, as one would intuitively expect, and around -0.75, it is the most extreme since nearly 20 years. Less intuitively clear, the correlation of changes in sterling and UK two-year yields is also inverse, at near -0.55, it rarely is more extreme.
Data: The UK's April GDP will be released at the end of the week. Growth in the first quarter was a firm 0.6%, matching the best quarterly performance since Q1 24. Still, the economy seems to be on the verge of slowing, and the median forecast in Bloomberg's survey is for near stagnation in Q2 and Q3. The swaps market has tempered its previous hawkish outlook for the central bank. The first hike is not fully discounted until the middle of Q4 and about a 20% chance of a second hike. Recall that as recently as late April, three hikes were fully discounted.
Prices: Sterling posted a big outside down day ahead of the weekend. It settled below $1.3400 for the first time in two and a half weeks. It was sold to $1.3330. The next target is around $1.3300, which held last month. The year low was recorded at the end of March near $1.3160.
Canada
Drivers: The Canadian dollar is sensitive to the greenback’s overall direction. The rolling 30-day correlation of changes in the USD-CAD exchange rate and the Dollar Index is around 0.67. It peaked shortly after the war began near 0.85, which was the highest since mid-2024. The Canadian dollar is also sensitive to the general risk environment, using the S&P 500 as the proxy. The rolling 30-day correlation of changes in the USD-CAD exchange rate and S&P 500 is near -0.45. The exchange rate is more sensitive to changes in the US two-year yield (~0.45, 30-day rolling correlation) than changes in Canada’s two-year yield (~0.35) or changes in the two-year interest rate differential (~-0.04).
Data: As we noted above, the OECD's model of purchasing power parity has the Canadian dollar trading about 20% below fair value. Yet, Canada's trade balance has deteriorated. In Q1 25, the goods balance was in surplus by an average of about C$337 mln a month. In Q1 26, the average shortfall was nearly C$2.2 bln. The Bank of Canada meets on June 10. Before the Middle East war began, the swaps market was discounting about a 40% chance of another cut. This swung around dramatically, and by March 20, the market had a little more than three rate hikes this year fully discounted. The pendulum has swung sharply again, and even before the recent data that showed back-to-back quarterly contractions, the swaps market had less than two hikes priced into the swaps curve. Now, there is a hike fully discounted late in the year and about a 37% chance of a second.
Prices: The Canadian dollar initially reacted positively to news that a whopping 154k full-time jobs were created in May, the most since February 2022. The unemployment rate fell back to 6.6% from 6.9%, while the participation rate was steady (at 65%) and wage growth slowed markedly (to 3.2% from 4.8%). The US dollar initially fell to almost CAD1.3865 before it rebounded to a new session high near CAD1.3950. The year's high was recorded at the end of March slightly above CAD1.3965. A move above CAD1.40 would signal potential toward CAD1.4100-40.
Australia
Drivers: Judging from the 30-day rolling correlation of changes, the Australian dollar is most sensitive to changes the US two-year yield (-0.85), the most in more than two decades. The Aussie is also sensitive to the greenback's broad direction, using DXY as the proxy (~-0.82), the most extreme in two years. The Aussie is less sensitive to changes in the domestic two-year yield (<0.35). The correlation with the two-year interest rate differential and the exchange rate is lower than with the US rate alone (~0.71). The exchange rate’s correlation with gold has recovered from around 0.35 in late March to around 0.84, the highest since late 2022.
Data: Australia's economic calendar is light, consisting of private sector consumer and business surveys. Melbourne Institute's consumer inflation expectation survey may be the most important. It reached 5.9% in April, its highest level since November 2022 before pulling back in May to 5.6%, which was also last year's high print. The central bank meets on June 16. With three hikes this year already delivered and the recent data, including employment, the preliminary May PMI, and April household spending, weaker than expected, there is little doubt, but the RBA is on hold. The futures market has downgraded the probability of another hike this year to about 70%. It had been fully discounted as recently as May 26.
Prices: The Australian dollar broke down after the US jobs data and fell a little below below $0.7040, its lowest level since April 13. It settled below the lower Bollinger Band (~$0.7065) The Aussie could be at the edge of a precipice. Since around mid-April, a head and shoulders topping pattern has been etched out and it appears to have settled below the neckline with the losses suffered at the end of last week. The measuring objective of the pattern is around $0.6900. From another perspective, the $0.7055 area is the halfway mark of the Aussie's rally off the year's low from March 331 (~$0.6835) and the next retracement objective is near $0.7000.
Mexico
Drivers: Four recent peso drivers stand out. First, the 30-day correlation between changes in the exchange rate and changes in the US two-year yield is above 0.80 and the highest in 20 years. They were inversely correlated until about mid-March. Second, there is still a substantial sensitivity to risk. Using the S&P 500 as the proxy, the inverse correlation of the dollar-peso exchange rate is almost -0.79. In April, it approached -0.85, which has not been seen in a decade. Third, the exchange rate is inversely correlated with gold (~-.079), the most extreme since mid-2022. This is to say, the peso tends to strengthen alongside gold. Fourth is the dollar's overall direction. The correlation of the exchange rate and DXY changes is about 0.63. It is off this year's peak near 0.80, but it is still in the upper end of this year's range.
Data: Mexico reports May vehicle production and exports to start the new week. In April, Mexico exported almost 87% of the vehicles it produced. By contrast, estimates suggest China exports 15-20% of the vehicles it produces and about of a fifth of those exports are foreign brands. The highlight of the week is Tuesday's May CPI and Thursday's April industrial output. Both the headline and core CPI measures likely remained about the upper end of the 2%-4% target range, while the economy struggles to find traction. Industrial output contracted by 1.2% year-over-year in Q1 and the monthly series fell by a cumulative 1.36% in Q1. After delivering the second cut of the year last month, Banxico has signaled it is moving to the sidelines, and the swaps market favors a rate hike (80%) by the end of the year.
Prices: The Mexican peso fell by around 1.10% ahead of the weekend, matching it biggest decline in nearly three months. It turned what was a small gain for the week into modest loss (~0.70%). The dollar recorded an ostensibly bullish outside up day against the peso, having traded on both sides of Thursday’s range and settled above its high. In fact, the greenback settled at its best level in a month. The dollar had forged a base in recent sessions in the MXN17.26-MXN17.27 area. It was lifted to about MXN17.5360 before the weekend, its best level since May 5 before closing near MXN17.48. The next technical target is the cap from the second half in April in the MXN17.58-MXN17.59 area.
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