The global bond selloff and the weak USD

The selloff in global fixed income markets persists as growing inflation worries lead to further frontloading of central bank rate hikes. The USD saw its rate and yield appeal vs the rest of G10 improve as a result but was unable to benefit from it. The apparent ‘decoupling’ between the USD and UST yields could reflect market fears about weakening foreign demand for US public debt – stoked by the US Treasury’s attempts to curb long - dated UST yields as well as recent media reports that Japan’s GPIF and Norway’s Sovereign Wealth Fund could reduce their vast UST holdings. The ‘Sell - America’ trade from Q225 is an extreme example of how negative correlation between UST yields and the USD could result in what has been described as the ‘ anti - USD - smile’ or ‘USD - frown’.

◼ Fears about the US fiscal outlook and its impact on foreign appetite for USTs could linger but we also note that fixed - income international flows have become less of a USD driver than in the past. As the FX price action in H225 suggested, unhedged inflows into US stocks helped prop up the USD even as investors reduced their UST exposure. And the share of US stocks and credit in foreign - held long - term assets is now dwarfing t hat of USTs, according to the latest TIC data. In turn, this means that the still robust US equity market rather than any worries about the UST outlook should be a key driver of the USD long - term outlook.

◼ Its weaker correlation with US rates notwithstanding, the USD outlook could remain a function of the relative Fed outlook as market focus shifts to the outcome of the September FOMC policy meeting next week. Ahead of that, today, FX investors will scrutini se the CPI data for August. We believe that the risk of a hike and/ or a hawkish hold has increased, in view of sticky energy prices and the latest US Treasury’s UST buybacks which can ease US financial conditions. A more hawkish Fed next week could support the USD.

◼ Elsewhere, focus next week will be on the outcome of the BoJ and BoE policy meetings. F or the JPY to maintain its rally, the BoJ will have to raise rates via a unanimous vote and Governor Kazuo Ueda would have to be hawkish in his press conference. The BoE should keep rates on hold as it grapples with stagflationary headwinds battering the UK economy, in a blow the GBP rate appeal.

The ongoing selloff in global fixed income markets continues as concerns about rising inflation push central banks to accelerate interest rate hikes. Although the USD has seen its attractiveness in terms of rates and yields compared to other G10 currencies improve, it hasn't fully capitalized on this situation. This disconnect between the USD and UST yields might be rooted in market anxieties regarding a potential decline in foreign demand for US public debt. This is further fueled by the US Treasury's efforts to manage long-dated UST yields and recent reports suggesting that Japan's GPIF and Norway’s Sovereign Wealth Fund may trim their extensive UST holdings. The 'Sell-America' trend observed in Q2 2025 exemplifies the negative correlation between UST yields and the USD, leading to what some are calling the 'anti-USD smile' or 'USD frown.'

Concerns about the US fiscal landscape and its effects on foreign interest in USTs are likely to persist. However, it’s worth noting that international fixed-income flows have become less influential as a driver for the USD compared to previous years. As indicated by the FX movements in H2 2025, unhedged investments in US equities have helped bolster the USD, even as investors have scaled back their UST holdings. Moreover, recent TIC data shows that foreign investments in US stocks and credit have now surpassed those in USTs. This suggests that the robust performance of the US equity market, rather than anxieties surrounding USTs, should be a major factor influencing the long-term trajectory of the USD.

Despite its weaker correlation with US rates, the outlook for the USD may still hinge on the Fed's stance as attention turns to the upcoming FOMC policy meeting in September. In anticipation of this, FX investors will be closely analyzing the August CPI data. We believe that the likelihood of an interest rate hike or a more hawkish stance has risen due to persistent energy prices and recent UST buybacks by the US Treasury, which could ease financial conditions. A more aggressive Fed next week could lend support to the USD.

Additionally, next week will bring significant focus on the outcomes of the Bank of Japan (BoJ) and Bank of England (BoE) policy meetings. For the JPY to sustain its upward momentum, the BoJ will need to raise rates unanimously, and Governor Kazuo Ueda must adopt a hawkish tone during his press conference. Meanwhile, the BoE is expected to keep rates steady as it navigates through stagflationary challenges that are weighing down the UK economy, which could negatively impact GBP's appeal.