Currency markets subdued as oil shock lifts global yields; ECB, US inflation eyed

Currency markets remained relatively stable in cautious trading on Thursday as investors grappled with a spike in oil prices and rising global bond yields, amid concerns over the yen's strong rally. Brent crude futures stayed well above $100 a barrel following a breach on Wednesday, due to ongoing attacks on shipping by Iran and the US since the beginning of the war.

This energy-driven inflation pressure pushed global bond yields higher, with benchmark 10-year Treasury yields reaching their peak since 2023, despite a disappointing bond buyback program. The US dollar showed slight relief, allowing the euro and sterling to weaken marginally to $1.1633 and 1.3547, respectively. The Japanese yen, however, remained relatively strong, trading at 153.70, a departure from its recent seven-month highs.

The dollar index, which gauges the greenback against a basket of currencies, dropped to 98.81, near a three-week low. Analysts are now primarily focusing on macroeconomic data to conclude the week, with attention shifting to US inflation readings, including producer prices on Thursday and the Consumer Price Index (CPI) on Friday, just before the Federal Open Market Committee (FOMC) meeting on September 15-16.

Sally Auld, chief economist at National Australia Bank, commented that market sentiment appears to have been influenced by these upcoming numbers. The yen's strength and the oil price surge are seen as particularly consequential for the Federal Reserve's interest rate decisions. The European Central Bank is set to raise interest rates for the second time this year, signaling readiness for further tightening if inflation outlook does not improve.

Meanwhile, the Bank of Japan is projected to increase rates to 1.25% on September 18 and 1.75% in the second quarter of 2027, driven by persistent worries over rising price pressures and the yen's depreciation. US inflation data will be closely monitored for insights into the Federal Reserve's next policy move, as lingering inflation pressures could complicate the central bank's stance.

Traders now estimate a 60% probability of a Federal Reserve rate hike this month, following a stronger-than-expected nonfarm payrolls report. The New Zealand dollar strengthened by 0.2% to $0.5848, the Australian dollar remained flat at $0.7215, and China's offshore yuan hovered near its strongest level in nearly four years, at 6.705 per dollar, after a report showing China's producer and consumer price inflation increased due to higher energy costs.