Bondford Report : 2025 Q4 - Economic & FX Outlook

USD - The End of an Era of Exceptionalism?

US Dollar Index has its Worst Start to a Year Since 1973

The dollar is heading for its weakest year in half a century, with the DXY index down nearly 10% year-to-date. Once regarded as the ultimate safe haven, the greenback’s appeal has been shaken by President Trump’s unconventional trade and fiscal policies, which have undermined confidence in US assets.

This marks a sharp reversal from recent years, when geopolitical turmoil - from the war in Ukraine to recurring Middle East tensions - reinforced the dollar’s primacy. That dominance is now being eroded by self-inflicted strains: escalating trade wars, widening fiscal deficits, and political interference with respected US institutions.

Source: Bloomberg

US Nonfarm Payrolls – Clear Drop Off in Job Creation, But Not Catastrophic

The first major wave of weakness came ahead of Trump’s “Liberation Day” tariffs in April, when the abrupt policy rollout delivered both an economic shock and a blow to investor confidence. A second wave arrived in August after July’s payrolls report revealed a sharp slowdown in hiring, alongside heavy downward revisions to prior months. For the Fed, this upended assumptions of labour-market resilience and shifted the debate from when to cut rates to how quickly, dragging the dollar lower.

In September the Fed delivered its first cut since December 2024. Chair Powell described the move as “insurance” against labour market weakness rather than the start of a loosening cycle, but the Committee is divided. Projections show a slim majority in favour of at least two cuts this year, while Powell and other senior members expect fewer. The divergence reflects different views on whether Trump’s tariffs will create lasting inflation pressure or fade quickly. Markets are left with a mixed message: more easing is likely, but the pace remains uncertain.

Source: U.S. Bureau of Labor Statistics

US Inflation – Heading In The Wrong Direction, But Less Bad Than Feared

Dollar sentiment has also been dented by concerns over Fed independence. Trump’s repeated criticism of Powell, his attempted dismissal of Governor Cook, and expectations that he will nominate a loyalist when Powell’s term ends in May 2026, have all unsettled investors. The prospect of politically driven monetary policy has fuelled demand for alternatives: gold and Bitcoin are trading near record highs, while traditional safe havens such as the Swiss franc and Japanese yen - and increasingly the euro - have drawn inflows. Foreign investors are also hedging US dollar exposure at levels rarely seen in recent decades, a striking reversal given the dollar’s historic role as the hedge of choice.

Yet, the US economy retains pockets of strength. Tech stocks continue to surge on the promise of artificial intelligence, and while growth is slowing, it still outpaces much of the G7. Labour-market revisions point to a cooling, not a collapse, in hiring. In the absence of political noise, the underlying story would arguably support firmer US asset performance.

Source: U.S. Bureau of Labor Statistics

Bondford's Outlook - USD

The near-term outlook for the dollar remains negative. Rate cuts are increasingly likely, while the currency’s safe-haven premium has been eroded by political risk. From here, two scenarios dominate:

• Shallow easing, stabilisation: If the Fed limits cuts to a modest “insurance cycle” the dollar could stabilise against peers, underpinned by resilient economic growth and strong corporate earnings.

• Policy capture, deeper decline: If political pressure intensifies and Fed independence is compromised, aggressive easing could follow, undermining credibility and pushing the dollar lower against both major and emerging-market currencies.

For now, risks are tilted to the downside. Bondford recommends that investors with USD exposure - whether in assets or revenues - adopt prudent hedging strategies. That said, the dynamism of the US corporate sector provides a durable offset to policy uncertainty.

EUR – Can the Euro’s Winning Streak Last?

The Euro Soars to a Four Year High as Investors Flee the Dollar

The euro has been one of 2025’s star performers, rising more than 12% against the dollar year-to-date. Its strength, however, reflects relative stability rather than absolute brilliance. With the US mired in institutional strain, the UK wrestling with fiscal challenges, and Japan hamstrung by policy uncertainty, the euro has become the least-risky option in a global market short on havens.

Euro zone Ahead of the Curve on Disinflation

The bloc has also benefitted from a surge in defence spending, progress in taming inflation, and a timely policy pivot from the ECB. Having reached its target in June, the ECB was able to ease restrictive policy early and is now better placed than peers to hold rates steady.

Rate differentials are tilting back in the euro’s favour, while falling borrowing costs have helped spur activity: euro area growth accelerated to a 16-month high in September, aided by a partial resolution of trade tensions with Washington. A 15% tariff still stings, but for Europe’s export-driven economy, clarity is better than uncertainty - particularly given its reliance on sustaining a healthy current account surplus.

Interest Rate Differentials Set to Narrow in the Euro’s Favour

Still, risks remain. Trump could revisit tariffs at the next diplomatic flashpoint, as India and Brazil have already discovered. Energy security is another vulnerability: a harsh winter would test Europe’s reduced but lingering reliance on Russian gas. Even the ECB’s hawkish stance is not immune - President Lagarde’s assertion that “the disinflation process is over” may prove premature (see our full analysis here - https://bondford.com/insights/disinflation-processis-over) leaving the euro exposed to policy backtracking.

EU Sovereign Debt Concerns – Yield Spreads Widen

Politics adds a further layer of fragility. Disputes over defence, migration, and fiscal rules remain unresolved, while discipline at the national level is fraying. France has become a focal point, with bond yields rising as successive governments resist even modest restraint, pushing borrowing costs towards Italian and Greek levels. If investor patience breaks, the ECB could face pressure to stabilise sovereign debt markets - an intervention that would undermine the euro’s safehaven narrative. Longer-term, structural headwinds remain: weak productivity, unfavourable demographics, and regulatory hurdles that slow the uptake of new industries, all of which risk capping Europe’s potential growth.

Bondford's Outlook - Euro

Bloomberg consensus sees the euro gradually appreciating to $1.20 by Q3 2026, and holding steady near current levels against sterling. We broadly agree, but note that much of the rally has been built on relative stability rather than intrinsic strength.

From here, three scenarios stand out:

• Resilient stabiliser: Inflation remains anchored, growth recovers modestly, and relative policy stability allows the euro to hold gains.

• Political setback: Fiscal stress in France or renewed trade frictions with the US erode investor confidence, knocking the euro back from multi-year highs.

• Structural drag: Failure to address competitiveness and demographic challenges caps longer-term appreciation, keeping the euro range-bound.

On balance, the risks to the euro are more balanced than for the dollar - but without fiscal credibility and political unity, today’s strength could quickly prove fragile.

GBP - Stagflation & Fiscal Credibility Concerns

The Pound Joins Others In Appreciating Against the US Dollar

Sterling’s performance in 2025 has been mixed. While it has gained against the dollar - in line with most major currencies amid broad USD weakness - it has slipped to a two-year low against the euro. This underperformance appears puzzling: UK growth has outpaced much of the euro area, rate differentials remain supportive, and a new Labour government commands a strong parliamentary majority. Add to that the somewhat rare privilege of preferential treatment from the Trump administration, the pound ought to be on stronger footing. Instead, investor confidence has faltered due to domestic missteps.

The government underestimated the scale of the fiscal challenge it inherited. Having pledged not to raise taxes on “working people,” policy options were constrained from the outset. Early decisions — such as large public-sector pay awards — quickly eroded limited fiscal headroom. By the first Budget, Chancellor Rachel Reeves faced few credible funding options and resorted to higher business levies, steeper minimum wages, and cuts to pensioner benefits. The package proved politically divisive, fiscally insufficient, and economically damaging.

UK Long Term Government Borrowing Costs Now Exceed Those of the US

The results are now clear. Firms have passed on higher costs to consumers, fuelling renewed inflation while trimming payrolls, which has lifted welfare spending. Gilt yields have climbed above US Treasuries and now rival levels last seen during the Truss-era turmoil. With no convincing plan to restore discipline or boost growth, UK assets are being priced as riskier in today’s high-debt, low-growth environment.

Looking ahead, the Chancellor faces a reported £30bn shortfall in her November Budget. Markets would prefer spending restraint, but political pressure - from within Labour and from the populist challenge of Reform UK - makes additional tax increases more likely. Such measures would weigh on growth without easing concerns over fiscal sustainability.

Government Policies Have Sent Inflation in the Wrong Direction

Stagflationary pressures complicate the picture. Inflation, once on track to return to the Bank of England’s 2% target, has rebounded to 3.8%. External energy costs are partly to blame, but domestic tax and wage-driven cost-push factors dominate. The MPC remains divided: the August meeting required a second ballot to confirm even a modest quarter-point cut, underscoring uncertainty about the policy path. Markets have now scaled back expectations for further easing, keeping sterling sensitive to incremental shifts in data and rhetoric.

Against the dollar, sterling retains relative support. Inflation risks imply UK rates will stay restrictive for longer, while institutional uncertainty in the US tilts some flows back towards the UK. Bloomberg consensus points to a gradual rise towards $1.38 by Q3 2026.

Against the euro, however, prospects are weaker. Improved sentiment toward the euro area, coupled with UK fiscal and inflation challenges, leave sterling under pressure. Consensus sees GBP/EUR holding near €1.15 over the next year, with risks skewed to the downside if fiscal credibility erodes further.

Bondford's Outlook - GBP

Sterling enters the final quarter of 2025 caught between supportive rate differentials and fragile fundamentals.

Three scenarios dominate:

• Policy credibility restored: Fiscal restraint and credible reforms could stabilise gilts and lift sterling, particularly against the euro.

• Stagflation entrenched: Persistent inflation and populist pressures force further tax hikes, weighing on growth and investor confidence.

• Volatile middle ground: The BoE remains divided, fiscal repair stalls, and sterling trades directionally off peers’ moves rather than its own strength.

On balance, the risks to the euro are more balanced than for the dollar - but without fiscal credibility