FX Outlook 2025: Where may US dollar go?

US Dollar Index: Room to edge out more gains in early-2025?

The US dollar had gained more than 7% since October this year, triggered by a rush for longs as expectations for Trump’s policies around tax cuts, spending and tariffs make the case for a less dovish Federal Reserve (Fed) rate outlook. Looking at recent strong expansion in US services activities and retail sales, along with an uptick in US core consumer price index (CPI) for the first time since April 2023, the economic data trend does not seem to justify previous cuts and may call for the Fed to tread more carefully from now on to avoid any inflation resurgence.

While the Fed may still follow through with its original guidance to cut rates by another 25 basis point (bp) in December, we expect the Fed to flag a potential rate hold into 2025, with any pause in cuts and more data-dependency early next year likely to keep the US dollar supported. Fed Chair Jerome Powell’s comments lately have been leaning on the less dovish side of the fence, saying that "the economy is not sending any signals that the Fed needs to be in a hurry to lower rates”.

Tariffs may drive widening of interest rate differentials

Recent signals from US President-elect Donald Trump also suggest that trade restrictions could be implemented sooner than expected. For now, US policymakers have stuck to their view that tariffs’ impact on inflation may be one-off and policy easing should continue at a gradual pace. However, the economic repercussions for US trading partners—particularly in Europe and Asia—could be more pronounced, given their higher reliance on exports as a share of gross domestic product (GDP).

A significant decline in export demand due to tariffs may heighten the risk of economic slowdowns in these regions, potentially triggering a more aggressive monetary easing cycle compared to the US. As such, the potential for interest rate differentials to widen further may remain a catalyst to drive demand for the US dollar. Lately, we have a disappointing set of Purchasing Managers' Index (PMI) read out from the Eurozone, which has prompted markets to look for a larger 50 bp rate cut potentially in January 2025 to prioritise growth.

Safe-haven appeal in times of uncertainties

The upcoming year may likely be marked by uncertainties around geopolitical ties, while the balance between growth and inflation continues. The onset of the US-China trade war back in July 2018 saw the US dollar gaining in the months after, until the Covid-19 pandemic hits in early-2020. While markets are more well-prepared for any upcoming tariffs this time, there remains room for surprises as tit-for-tat retaliation is likely to ensue. In general, things may still get worse for geopolitical ties before it gets better.

Near-term corrective move possible, but any higher low may be on watch

Near-term, a minor bearish divergence on its daily relative strength index (RSI) and a bearish crossover on its daily moving average convergence/divergence (MACD) may point to easing upward momentum for now, which may raise the odds for a near-term corrective move.

The latest Commodity Futures Trading Commission (CFTC) data revealed that the aggregate US dollar positioning versus other G10 currencies is at its highest since July 2024, and the scale of the increase may call for some near-term cool-off. Seasonality for the US dollar also tends to be weaker nearing the end of the year (late-November to December), before a strong pick-up in January.

The 105.91 level may be on watch as near-term support to hold, but a stronger technical reset may be a move towards the 103.81 - 104.75 range. As the momentum indicators are rolling over, we may watch for a move towards more neutral levels to see if the US dollar can push for a higher low.