Barclays Bank: Tariff pressure easing may help arbitrage trading reappear, USD and emerging market currencies favored.

Barclays Bank's latest research report points out that with signs of easing in the US-China trade dispute, the pressure on major central banks to cut interest rates has been reduced, and arbitrage trading may become active again in the short term. The bank's strategy team emphasized in a report released on May 18 that the current market environment provides a window of opportunity for foreign exchange arbitrage strategies, but caution is needed regarding the potential risks posed by central banks shifting towards neutral interest rates. Barclays analyst Eric Martinez's team explicitly stated that they are more positive on the exchange rate performance of the US dollar, Brazilian real, Colombian peso, Indian rupee, and Mexican peso. In terms of funding currency selection, the bank prefers the euro as the borrowing currency, citing that "peak tariff risks have weakened the downward pressure on the US dollar". This layout logic is based on two core judgments: firstly, the drag effect of the trade dispute on the global economy is weakening, and secondly, major central banks do not need to rush to cut interest rates due to the risk of a hard landing in the economy, and the pace of policy adjustment is expected to remain gradual. The report pointed out that although global economic growth may slow down, the fundamental support that "growth will not collapse" allows major central banks to follow a "data-dependant" decision-making model. The strategy team emphasized, "The current benign global environment has given central banks a period to observe policies, and the remaining interest rate trading space in the foreign exchange market has been retained." This statement implies expectations for institutions such as the Federal Reserve and the European Central Bank to maintain stable interest rates, indirectly strengthening the cost advantage of arbitrage trading. As a classic strategy in the foreign exchange market, the essence of arbitrage trading is to borrow low-interest rate currencies and invest in high-yield currency assets to earn interest differentials. Barclays predicts that future market volatility will fall to levels seen before the US election and the announcement of tariffs in early April 2025, providing favorable conditions for arbitrage strategies. However, the bank also warns that as global interest rates gradually approach neutral levels (neither stimulating nor inhibiting the economy), the "golden window" for arbitrage trading may not last long. Although Barclays believes that tariff negotiations are continuing "behind the scenes" and the tail risks of the global economy and the US dollar have significantly decreased, uncertainty over tariffs may still affect growth momentum through expectations. However, the report points out that this impact will be more reflected in "weakening volatility shocks" rather than systemic risks, allowing arbitrage traders time to respond. Overall, Barclays' analysis sends a clear signal: with the dual support of easing tariff risks and central banks staying put, there is operational space for arbitrage trading in the short term, but close attention needs to be paid to the process of major economies shifting towards neutral interest rates. For emerging market investors, the relatively stable cost of USD financing and the high interest advantages of some emerging currencies constitute trading opportunities worth paying attention to at this stage.