Synopsis:

Danske Bank highlights several factors aligning for a potential USD rebound, driven by evolving market themes around US growth, disinflation aiding Fed cuts, and the increasing likelihood of a Trump-led inflationary policy shift.

Key Points:

1. Market Themes in July:

   • Growth Concerns & Fed Cuts: Growing concerns about US economic growth and stronger disinflation have supported expectations for Fed rate cuts.
   • 'Trump Trade': Increased speculation around inflationary tax policies under a potential Trump presidency has driven equity sentiment and curve steepening.

2. US Election Dynamics:

   • Republican Sweep: Prediction markets favor a Trump win and a Republican sweep, which has implications for market sentiment and fiscal policy.
   • Senate & House Elections: Republicans are expected to retake the Senate, while the House remains undecided.

3. UST Curve Steepening:

   • The UST 2s10s curve has steepened, driven by higher term premiums, indicating market concerns about debt sustainability under a potential Trump administration.
   • Term Premium: Despite the steepening, term premiums remain low by historical standards, suggesting room for further steepening if Trump's odds improve.

4. Potential Themes for USD Strengthening:

   • Tightening Race: A closer race could temper market hopes for looser tax policies.
   • Economic Signals: The US economy is cooling but not collapsing, suggesting the Fed may cut rates more gradually than markets expect.
   • Fed's QT Impact: The Fed’s quantitative tightening is draining liquidity from the US banking system, making market sentiment more vulnerable to setbacks.

Conclusion:

Danske Bank expects the Fed to cut rates twice this year and four times in 2025. They forecast EUR/USD to reach 1.07 in 3 months and 1.03 in 12 months, reflecting a strengthening USD driven by the above factors.