W2: GLOBAL SECTOR ROTATION SNAPSHOT
May 2026 | Liquidity Desk
Narrative Bridge
Over the past few weeks, we tracked the fuel that powers markets. Net Fed Liquidity, ECB balance sheets, the Bank of Japan, the PBOC. We saw the direction. Now comes the logical next question: if money is moving, where is it going?
Sector rotation is the answer to that question. But to understand it properly, we need to know who drives it. Not the retail investor buying stocks from their phone. It is driven by institutional investors: pension funds, insurance companies, sovereign wealth funds, large asset managers. They manage trillions of dollars and cannot afford to sit still when the macro environment shifts.
The tool they use is called Tactical Asset Allocation, or TAA. Unlike strategic allocation, which is set once and held for years, TAA is an active adjustment of the portfolio to current conditions. Rates rising? Reduce exposure to real estate and technology, increase allocation to banks and energy. Dollar weakening? Add weight to emerging markets and commodities. Liquidity contracting? Move into defensive sectors, exit the riskier ones.
When these decisions are made simultaneously by hundreds of institutions around the world, the result is visible in the data. That is sector rotation. We are doing nothing more than reading those movements.
In W1 we saw that Net Fed Liquidity remains in neutral territory. The Federal Reserve is not actively adding liquidity, but it is not aggressively withdrawing it either. The growth in financial conditions is coming from elsewhere: from private credit and bank lending, which continues to expand and compensates for the central bank's restraint. Alongside this, the dollar has been in a sustained downtrend since January 2025, more than 9% below its peak. This week a third factor was added: geopolitical de-escalation in the Middle East, which accelerated movements across several asset classes. The three together create a specific environment whose implications we will examine in detail.
Macro Context
The Dollar
The Federal Reserve's Broad Dollar Index, which tracks the US dollar against approximately 26 trading partners, is currently trading at 118.4, more than 9% below its January 2025 peak. The downtrend is sustained and consistent: six months lower, with a brief consolidation in late March and early April 2026, after which the decline continued.
Why do we use this index instead of the more familiar DXY? Because DXY tracks only six currencies, with the euro accounting for nearly 58% of its weight. For an analysis covering Asia and Latin America, that is too narrow a lens. The Broad Dollar Index includes the Chinese yuan, Mexican peso, Korean won, Brazilian real and dozens of others, weighted by actual trade volume with the US economy. It tells the truth more honestly.
The weakening dollar has two mutually reinforcing drivers at the moment. The first is macroeconomic: markets are pricing in a gradual normalization of interest rate differentials between the US and the rest of the world, reducing the dollar's attractiveness as a yield-bearing currency. The second is geopolitical: US-Iran nuclear deal negotiations and the pause in Hormuz military operations are reducing global demand for the dollar as a safe haven asset. When risk in the system decreases, investors no longer need to hide in dollars.
When the dollar falls, assets denominated in local currencies become more expensive in dollar terms, commodities become cheaper for the rest of the world, and capital has an incentive to seek returns outside the US. This is precisely what we see in the data for Asia and Latin America.
The Rate Environment
US 10-year Treasury bonds are trading around 4.3%, having peaked above 4.8% in early 2025. The direction is downward, but the movement is slow and inconsistent. The market believes neither in a sharp rate cut nor in a new hike. The Federal Reserve is sitting still and waiting.
The German Bund, the reference rate instrument for Europe, is trading around 2.6%. The gap relative to US levels remains significant, which partially explains why European capital continues to seek returns rather than parking in bonds.
Japan is a special case in the global rate landscape. The Bank of Japan maintains rates at 0.75%, while the Federal Reserve is at 4.3%. This gap of more than 3.5 percentage points drives what is known as the carry trade: investors borrow in cheap yen and deploy the proceeds into higher-yielding dollars.
What does this environment mean for sector rotation? Real rates in the US, meaning the nominal rate minus inflation, remain positive but have fallen from their peak. This is moderately positive for growth sectors such as technology.
For Europe, the ECB's low rates combined with fiscal loosening, particularly in defense and infrastructure, create a specific local driver that is distinct from the American cycle. European rotation does not blindly follow Wall Street.
Risk Appetite
The third axis, which reads whether institutional investors are in risk-seeking or defensive mode, is the credit market. When the big players are afraid, they do not say so publicly. But they show it in bond prices.
