The dollar index fell on Friday, trimming its weekly gains as U.S. equities surged and traders squared positions ahead of the weekend. Treasury yields edged higher following an upbeat ISM report and comments from Richmond Fed President Thomas Barkin, who expressed optimism about U.S. economic prospects for 2025. Barkin emphasized the need for a restrictive monetary policy stance until inflation moves closer to the Fed’s 2% target. Despite these gains in yields, the dollar softened as improved risk sentiment drove investors toward equities and other assets.

Euro Rebounds While Yuan Faces Pressure on Weak Yields and Easing Signals

The euro rose 0.30%, recovering from a 26-month low reached on Thursday, as traders recalibrated positions and engaged in short covering. In contrast, the yuan weakened further, weighed by falling Chinese yields, expectations of a People’s Bank of China (PBOC) rate cut, and the looming threat of U.S. tariffs. The PBOC announced plans to adjust banks’ reserve requirement ratios and interest rates "at a proper time," signaling potential monetary easing to support the slowing economy. Commodity-linked currencies underperformed their non-dollar counterparts, reflecting sensitivity to yuan weakness and ongoing concerns about Chinese growth.

Equity Markets Surge as Risk Sentiment Improves

U.S. equity markets rallied, with the S&P 500 gaining 1.2% on broad-based strength. Corporate performance and improving risk sentiment underpinned gains, while investors moved into equities amid waning demand for safe-haven assets. Oil prices climbed on cold weather forecasts and optimism about China’s economic stimulus, adding to demand expectations. Gold fell 0.6%, pressured by rising Treasury yields, while copper jumped 1.3%, benefiting from potential increased industrial demand tied to China’s anticipated stimulus measures.

Treasury Yields and Fixed Income Markets Reflect Mixed Dynamics

Treasury yields rose by 1 to 2 basis points across the curve, with the 2s-10s spread narrowing by 1 basis point to +31.9bp. The flattening curve reflected investor positioning amid mixed economic signals and persistent inflation concerns, even as risk sentiment improved.

Currency Markets: Mixed Performance Reflects Positioning and Risk Sentiment

• EUR/USD: Rose 0.30%, supported by short covering and a weaker dollar, bouncing back from multi-year lows.
• USD/JPY: Fell 0.25%, as dollar softness and slight haven demand bolstered the yen.
• GBP/USD: Gained 0.41%, driven by improved sentiment and dollar weakness.
• AUD/USD: Advanced 0.27%, though gains were capped by sensitivity to Chinese economic conditions and a weaker yuan.
• Cross-Currency Pairs: EUR/JPY and GBP/JPY posted modest gains, while AUD/JPY remained flat, reflecting cautious optimism among commodity-linked currencies.

Market Outlook: Central Banks, Economic Data, and Geopolitics in Focus

• Dollar: Expected to remain sensitive to Treasury yields and risk sentiment, with further upside limited if equities maintain their rally.
• Euro: Faces resistance unless eurozone economic data improves, though short-term rebounds may persist on positioning adjustments.
• Yen: Could see continued support from haven demand if geopolitical risks resurface or global growth concerns intensify.
• Pound: May benefit from improved risk sentiment but remains vulnerable to broader dollar strength and weak UK economic data.
• Commodity-Linked Currencies: Likely to stay volatile, with the Australian dollar particularly sensitive to Chinese economic developments and commodity price trends.

Conclusion: Volatility Expected as Markets Navigate 2025 Themes

As traders adapt to early 2025 dynamics, markets are balancing optimism over equity gains with lingering concerns about inflation, central bank policies, and geopolitical risks. The dollar’s performance will hinge on Treasury yields and economic resilience, while currencies like the euro, yen, and Australian dollar react to regional and global developments. Commodity markets remain a focal point, with oil and copper reflecting shifts in sentiment tied to China’s anticipated stimulus measures. Heightened volatility is expected as key economic and geopolitical narratives unfold.