Inauguration Day & the Trump Trade

President-elect Donald Trump is set to be inaugurated for a second time on Monday. His initial inauguration day marked the beginning of a notable decline in the USD following a significant rally after Trump’s first election victory.

Similar to Trump 1.0, the appeal of the USD’s Trump trade stems from:

(1) its safe-haven status as investors worry about tariffs;

(2) its yield attractiveness as tariffs and loose fiscal policies raise concerns about higher US inflation and yields;

(3) the allure of US assets due to investor expectations of deregulation and superior US economic performance. Our FAST FX models indicate that since November, the most significant driver has been relative rates, followed by relative equity market performance, particularly regarding EUR/USD. These valuation models, along with our positioning model, also suggest that the USD is currently overvalued and overbought.

Trump appears to be better equipped to commence his second term than he was for his first, with potentially 100 executive orders ready to be enacted on day one, covering immigration, tariffs, and energy policies.

This week, Trump’s tariff strategies have gained more attention, with reports emerging about his economic team proposing a gradual increase in tariffs to mitigate any negative inflationary effects while maintaining pressure on trading partners. This aligns with the perspectives of Trump’s nominees for Treasury Secretary and Chair of the Council of Economic Advisors, Scott Bessent and Stephen Miran. The implementation of such a policy would likely affirm investor optimism, elevate asset values outside the US, and lessen the risks of rising UST yields, potentially leading to a reversal of the long USD Trump trade.

While another rate hike by the BoJ could further diminish the USD’s yield appeal, the risk for the JPY lies in a dovish hike from the central bank. The CAD will be closely monitoring inauguration day for additional tariff threats, as well as Canadian inflation and retail sales data, to assess whether the dovish BoC continues to weigh on the currency.

We anticipate that the outcome of the January Norges Bank meeting will solidify its position as one of the more hawkish G10 central banks, and combined with high energy prices, will bolster the NOK against the EUR and SEK.

Next week, the focus for the EUR and GBP will be on the preliminary January PMIs from Europe and the latest UK labor market data.

We have revised our outlook for the EUR/USD following the US election, but we believe that many negative factors are already reflected in the price, and the pair appears to be oversold and undervalued. Our economists do not foresee a recession in the Eurozone and anticipate a terminal ECB rate of 2.25%, which is significantly higher than current expectations in the European rate market. Additionally, while recent political events in France and Germany have unsettled EUR investors, our rate strategists are not positioned for a repeat of the sovereign debt crisis from a decade ago and believe that many negatives are already accounted for. Moreover, we think that a potential reduction or even withdrawal of US support for Ukraine under President-elect Donald Trump could ultimately lead to the end of the war by 2025. This development could ease geopolitical risks in Europe, potentially enhancing domestic demand in the Eurozone. Furthermore, the conclusion of the Ukraine conflict could trigger a reconstruction boom in the country, serving as a tailwind for recovery in the Eurozone as well.

The USD strengthened following Donald Trump’s victory in the US presidential elections and the ‘red wave’ in Congress. The second Trump administration is expected to introduce additional fiscal stimulus and more aggressive trade policies, which could enhance the US growth outlook compared to its trading partners and make US inflation more persistent. We also anticipate that the Trump policy mix could shorten the Fed's easing cycle, but we believe this has already been factored into the rates markets, boosting the USD's appeal across the board.

More generally, we think that many positive factors are already priced into the USD, and we expect it to remain near recent highs but not surpass them on a sustained basis through 2025. While we cannot rule out further USD gains due to US tariffs, their timing and aggressiveness remain uncertain. In the long run, we also believe that a return to President Trump’s ‘Weak USD Doctrine’ and market concerns about the Fed’s independence could once again weigh on the USD as we approach 2026.

Increasing struggles in the Eurozone have driven safe-haven demand for the CHF, which may remain sought after until uncertainties are largely resolved. Assuming no lingering shocks, the CHF could then regain its status as a favored funding currency due to the potential return of near-zero interest rates and a high CHF valuation, while the SNB will closely monitor FX developments and Swiss disinflation.

Among the G10 currencies, the JPY was one of the least affected by tariffs during Trump’s first term. We expect the US-Japan rates spread to continue to narrow as the Fed cuts rates and the BoJ raises them further. This compression of the US-Japan spread will diminish the carry appeal of holding long USD/JPY positions, while the exchange rate’s volatility is likely to remain high due to uncertainty surrounding the Fed and BoJ rate paths, as well as Trump’s policy agenda, particularly regarding trade. Japan’s Ministry of Finance will also be prepared to intervene to support the JPY.

The recent decline of the GBP seems to reflect renewed concerns about the UK economic outlook, which, combined with rising government borrowing costs, could lead the Labour government to exceed its current fiscal deficit target, necessitating new austerity measures as early as March. However, we would not go so far as to say that FX investors no longer see the GBP as a higher-yielding, safe-haven alternative to the EUR.

We continue to expect that the political stability and relative economic performance of the UK compared to the Eurozone will sustain market expectations that the BoE will require a less aggressive easing cycle than the ECB to support growth. This ongoing dynamic makes us optimistic about the GBP versus the EUR for 2025 and 2026.

GBP/USD may continue to trade near its lows following the US election, but we anticipate a more robust recovery for this pair compared to EUR/USD in 2026.

Trump’s tariff threats have pushed USD/CAD to new highs above 1.40, but regardless of the incoming US administration's policy stance, risks to the CAD appear to be skewed to the downside in early 2025 due to a potentially widening BoC-Fed gap. However, the prospects of Canada outperforming the US in terms of growth could facilitate a gradual recovery for the CAD.

AUD/USD was weaker during Trump’s first term due to his tariffs on China and a declining Australian-US rates differential. We expect Trump to be open to negotiations regarding his China tariffs, which may end up being less than the 60% he promised during his campaign, thereby supporting AUD/USD. Additionally, AUD/USD will benefit from the RBA refraining from cutting rates while the Fed continues to lower its policy rate, with the RBA potentially missing this rate-cutting cycle altogether.

A declining NZ-US rate differential, China tariffs, and several periods of dry weather in New Zealand negatively impacted NZD/USD during Trump’s first term. We believe Trump’s China tariffs could be lower than the 60% he pledged during his election campaign, which will support NZD/USD, along with a stable NZ-US rate differential as the RBNZ matches Fed rate cuts in the coming year. La Nina and a rebound in New Zealand's growth will also support NZD/USD.

We adjust our XAU predictions based on current market conditions but maintain a downward trend in our forecasts for the majority of 2025. We anticipate a possible resurgence in gold prices in 2026 due to increasing market concerns regarding the independence of the Federal Reserve and the risk of fiscal dominance in the US.