Bond market tremors spread, but is the Dollar's rally built on sand?

Fade the Dollar rally?

The dollar’s latest pop looks more like a nervous spasm than a durable turn. The move had little to do with U.S. fundamentals and everything to do with a global bond market suddenly on fire. Long-dated paper from London to Tokyo has been torched, dragging yields to multi-decade highs and pulling the greenback along for the ride. Yet beneath that surface churn, the foundation still tilts against the dollar: a cooling U.S. labor market, Powell’s tacit pivot to prioritizing jobs over inflation, and a Fed ready to ease.

Friday’s payrolls have turned into the single heaviest stone on the market’s scales. If the jobs print confirms stagnation, the reaction function is almost scripted: traders will crank up bets on deeper near-term cuts, curves will steepen, and global fixed-income desks will scramble to recalibrate. That makes the release less about payrolls per se and more about the shape of the yield curve and the credibility of the Fed’s pivot.

The open question is where the dollar fastens its anchor. Does it keep floating on the bond sell-off theme, where safe-haven squalls provide episodic support? Or does it eventually snap back to the U.S. two-year yield—the traditional compass for FX traders? If cuts are aggressively priced, the two-year will bear the weight, and the dollar’s mooring may slip. But as long as bond volatility remains elevated, the greenback can still draw oxygen from safe-haven flows.

In short, payrolls are the hinge. A weak print sets the stage for a dovish cascade that steepens curves and undercuts the two-year anchor. Only if that curve repricing spills into outright risk aversion can the dollar sustain its latest uptick. Until then, the dollar looks caught between a tug from short-end US yields and a push from global bond tremors.

Still, I think ( I’m doing a lot of that these days) the trimming of shorts looks tactical rather than the start of a broad squeeze, say to 1.15, although I will be happy to cover that dip. Yesterday’s dollar rally, sparked by a sell-off in gilts and OATs, lacked broad-based conviction. Rising debt concerns outside the U.S. may have pushed some players to reduce exposure, but that’s not the sort of fuel that powers a sustained greenback run. I’m watching for dips, though patience is essential; the sub-1.1625 levels are scarce, and I’d rather stalk than chase until the tape forces my hand.

The jobs story is about more than payrolls. With Trump’s appointment of a new BLS chief, credibility questions hang over the official prints. That lifts the importance of second-tier data like JOLTS, where openings are sliding but still well north of pre-Covid averages. If layoffs stay suppressed, dovish repricing is slower; if they start to tick higher, the Fed’s easing path could accelerate. Either way, Powell has made clear the risk dial is pointing at employment, not inflation.

On the euro side, fair value screens closer to 1.18, leaving EUR/USD still cheap as chips by my models even with France’s political smoke hanging in the background. OAT underperformance may cap enthusiasm, but unless that stress metastasizes into broader contagion, its drag on the single currency looks mostly spent.

Yesterday’s firmer-than-expected 2.3% core CPI print has already nudged two-year EUR swap rates higher and dialed back expectations of a 2025 cut, at least for now. But ECB rhetoric continues to paint a “we’re in a good place” picture, suggesting any dovish repricing is more about the data flow than a clear-cut direction of travel.

Meanwhile, the bond market’s global revolt has reached Japan’s shores. The 30-year JGB cracked to an all-time high yield of 3.28%, and the 20-year touched levels unseen since 1999. Tokyo’s move isn’t just about math; it’s also politics. With Prime Minister Ishiba facing possible ouster after July’s election stumble, investors see the prospect of a new leader leaning populist, juicing fiscal spending, and leaning on the BOJ to rein in hikes. That fiscal slippage narrative is precisely what bond traders don’t want to hear. Tomorrow’s 30-year auction will be a real test—so far, insurers have shown little appetite for duration, preferring to huddle in the front end.

Put it together, and the picture is one of a dollar levitating more on smoke than fire. A safe-haven bid born from others’ debt problems can’t mask the gravitational pull of a Fed pivoting to cuts. The euro still looks undervalued, the yen remains at the mercy of political winds right now, and global bonds are the true fault line running under every asset class. I see the dollar’s momentum as brittle, vulnerable to snapping once the payrolls headline crosses the screens. Until then, I’ll keep most of my powder dry—ready to fade deeper US dollar rallies if they come at my prices and chase USD weakness only when the market itself opens the door.