Monthly FX review May 2025

You can bet your dollar’s bottom

The USD’s losses have stuck, even as other US assets rebounded. The ‘sell US’ narrative unusually saw the USD, Treasuries and US equity markets sell off simultaneously. However, Treasuries and stocks have since rebounded, yet the dollar slide has stuck. Granted, the chart shows the DXY index, which is skewed by the euro’s outperformance and ignores key US trade partners like China, but the USD remains weaker by alternate measures too. In April, the USD lost ground to each of its G10 peers.

It’s too early to tell if this is a long-term shift, but it does feel like a reassessment by investors. The unusual showing of vulnerability in US assets, even though there were no signs of market dysfunction, seems to have shaken the tree. Even while US equities and bonds may still offer strong returns, perhaps the willingness to rely on the US dollar has eroded. There is scope for a diversification away from the USD in international currency reserves, which may already be partly evidenced by the failure of the USD to rebound.
 

Reserves in reverse?

Bets on the euro strengthening continue to gain traction. The potential for diversification away from the USD could spell a rebound in EUR reserve holdings, which is partly why forecasts for the euro are being upgraded. That includes our economists who are now forecasting EURUSD to reach 1.2000 in the first half of 2026, which coincides with their expectation of a rebound in European economic growth, as fiscal spending begins to filter through.

Euro strength is despite further expected rate cuts from the ECB. Our economists now expect two further reductions in the coming months, from one previously, and markets more or less agree. Tariffs are now acknowledged to likely be disinflationary for Europe – a shift from the slightly vague tone before – while posing downside risks to economic growth. Our economists are forecasting a rate increase in Q1 2026, as growth improves.
 

Notes: Figures refer to the share of allocated reserves measured in USD; each data point refers to Q4 of that year.
Sources: International Monetary Fund, Macrobond, Investec

GBPUSD forecast to reach 1.3800 in 2026

GBP snuck to a three-year high of 1.3444 in April, without much by way of fundamental drivers. Sterling’s relationship with risk sentiment has seen it struggle compared to other beneficiaries in April, with the pound losing ground to most of its G10 peers. But as the dust has settled and risk sentiment recovered, GBPUSD has trudged higher from 1.2709 on 7 April to touch a new high of 1.3444, allowing USD-buyers to lock in hedging above-Budget. Our economists expect the pair to continue modestly higher, reaching 1.3800 in 2026.

Markets have moved to price in more Bank of England rate cuts, nearing our economists’ long-standing view. Sterling has been less focussed on UK interest rates of late, given the turmoil in markets elsewhere. However, following the expected jump in the April figures due to utility bills increasing, UK inflation looks set to subside faster than before, encouraging markets to bet on monetary policy easing. Our economists still expect an end-year Bank rate of 3.75%, forecasting the once-a-quarter rate cutting pace to continue for now.
 

Trade race to beat Trump’s tariffs

The world rushed its exports to the US in Q1 2025, hoping to beat the implementation of tariffs. Despite Trump’s hatred for the US’s bloated trade deficit, record imports ahead of Liberation Day saw the trade deficit reach a record high in March. The question now is whether the tariffs lead to empty shelves in the US, and a slowing in the economy. Anecdotally, we have already heard of clients keeping stock in warehouses in China for now, hoping for a de-escalation in the trade war.

Looking at moves elsewhere in FX markets, the ZAR has recouped much of its losses and now moves towards a year-to-date high versus the USD. The JPY lost ground to G10 peers as markets perceived the Bank of Japan’s meeting as a signal that no further rate increases are likely this year. The AUD and NZD have reduced their losses as markets were provided with hope of that de escalation in US-China relations. Generally, markets remain sensitive but are far less choppy day-to-day.

Notes: as of 10:21 BST 08 May 2025
Sources: Macrobond, Bloomberg, Investec

Forecasts

Notes: Forecasts are produced by Investec Economics and are for end-quarter
 

Sources: Macrobond, Bloomberg, Investec