The euro retreated in European trading on Monday against a basket of global currencies, extending its losses against the US dollar for a third consecutive session and pulling back from a three-month high. The decline comes amid ongoing correction and profit-taking, alongside a recovery in the US currency ahead of the close of trading for 2025.

The downside in the single currency is being limited by fading expectations that the European Central Bank will cut interest rates in February 2026, particularly as economic activity in the euro area has improved recently, with forecasts pointing to a continuation of this improvement as downside risks recede.

Price overview

Euro exchange rate today: the euro fell 0.15% against the dollar to 1.1754, from an opening level of 1.1771, after recording a session high of 1.1786.

The euro ended Friday’s session down around 0.1% against the dollar, marking its second consecutive daily loss, as correction and profit-taking continued from the three-month high of $1.1808.

Last week, the euro gained 0.55% against the dollar, its fourth weekly advance in the past five weeks, supported by a narrowing interest rate differential between Europe and the United States.

The US dollar

The dollar index rose 0.1% on Monday, extending its gains for a third straight session and continuing its recovery from two-and-a-half-month lows. This reflects a broader rebound in the US currency against a basket of major and secondary currencies.

Beyond buying from lower levels, the dollar’s recovery ahead of year-end has also been supported by position adjustments and the unwinding of short positions, as the US currency moves toward posting its largest annual loss since 2017.

European interest rates

Money markets currently price the probability of a 25-basis-point interest rate cut by the European Central Bank in February 2026 at less than 10%.

To reassess these expectations, investors are closely monitoring upcoming euro area data on inflation, unemployment, and wage growth.

Interest rate differential

Following the Federal Reserve’s latest decision, the interest rate gap between Europe and the United States has narrowed to 160 basis points in favor of US rates, the smallest differential since May 2022, which supports the euro’s exchange rate against the US dollar.

The Japanese yen rose in Asian trading on Monday at the start of the final trading week of 2025 against a basket of global currencies, moving into positive territory versus the US dollar. The gains came after the summary of opinions from the Bank of Japan’s latest monetary policy meeting showed policymakers agreeing on the need to continue raising interest rates.

Some members warned that the central bank could fall behind the curve in normalizing monetary policy, noting that waiting for another meeting could pose a “significant risk,” given that real interest rates in Japan remain among the lowest globally.

Price overview

Japanese yen exchange rate today: the dollar fell 0.3% against the yen to 156.06, from an opening level of 156.50, after recording a session high of 156.53.

The yen ended Friday’s session down 0.35% against the dollar, marking its first loss in four sessions, after the Japanese government proposed record spending for the next fiscal year.

Last week, the yen gained around 0.8% against the dollar, its first weekly advance in three weeks, supported by buying interest from lower levels and repeated warnings from Japanese government officials about the possibility of intervention to support the local currency.

Summary of Bank of Japan views

Earlier on Monday in Tokyo, the Bank of Japan released the summary of opinions from its latest monetary policy meeting, held on December 18–19, which resulted in an interest rate hike to 0.75%, the highest level since 1995.

The summary showed a clear shift toward a more hawkish stance among most board members, with several pointing to the need for further interest rate increases in the future. Members agreed that gradually raising rates and scaling back monetary stimulus are necessary to ensure long-term price stability.

Some policymakers cautioned that the bank risks lagging behind in the normalization process, stressing that delaying action until another meeting could be risky, as Japan’s real interest rates remain the lowest among major economies.

Several members also noted that Japan’s extremely low interest rates relative to other central banks are contributing to yen weakness, which in turn adds to inflationary pressures through higher import costs.

Bank of Japan Governor Kazuo Ueda said last week that underlying inflation in the country is steadily accelerating and moving closer to the central bank’s 2% target, reaffirming the bank’s readiness to continue raising interest rates.

Japanese interest rates

Market pricing for a quarter-point interest rate hike by the Bank of Japan at its January meeting remains steady at around 20%.

Investors are awaiting further data on inflation, unemployment, and wage growth in Japan to reassess these expectations.

Major Wall Street indexes hovered near record highs in light trading on Friday following the Christmas holiday, as investors bet that further interest rate cuts and strong corporate earnings will push markets to new peaks next year.

The benchmark S&P 500 index touched an all-time intraday high, edging closer to the 7,000-point mark, while the Dow Jones Industrial Average stood just 0.3% below its record set on December 12.

This performance followed a recent rally in US equities after months of choppy selling, during which artificial intelligence-related stocks came under pressure on concerns over elevated valuations and rising capital expenditure weighing on profits.

However, signs of resilience in the US economy, the prospect of a more accommodative monetary policy with the appointment of a new Federal Reserve chair next year, and renewed appetite for AI stocks have supported a market rebound. This has put the S&P 500, Dow Jones, and Nasdaq on track for a third consecutive year of gains.

Brian Jacobsen, chief economist at Annex Wealth Management, said that 2026 is likely to be a testing year for markets, noting that companies will need to deliver tangible gains in productivity and profit margins from artificial intelligence and other investments.

According to data compiled by LSEG, analysts expect S&P 500 earnings to rise by 15.5% in 2026, compared with projected growth of 13.2% in 2025.

The S&P 500 has gained more than 17% since the start of 2025, driven for much of the year by mega-cap technology stocks, although the rally has recently broadened to include cyclical sectors such as financials and basic materials.

Traders are also watching to see whether the so-called “Santa Claus rally” materializes this year. This seasonal pattern typically sees gains in the S&P 500 during the final five trading days of the year and the first two sessions of January, according to the Stock Trader’s Almanac. The period began on Wednesday and runs through January 5.

At 9:39 a.m. Eastern Time, the Dow Jones Industrial Average rose 10.77 points, or 0.02%, to 48,741.93. The S&P 500 added 9.97 points, or 0.14%, to 6,942.02, while the Nasdaq Composite climbed 42.38 points, or 0.17%, to 23,655.69.

Six of the 11 S&P 500 sectors were higher, led by information technology, while utilities and industrials were the weakest performers.

Nvidia shares advanced 1.5% after the AI chip designer agreed to license chip technology from startup Groq and appoint its chief executive.

By contrast, Biohaven shares fell 1.4% after its experimental depression drug failed to meet the primary endpoint in a mid-stage trial, adding to a series of setbacks the company has faced this year.

Coupang shares surged 8.6% after the e-commerce firm said that all customer data leaked from its South Korean operations had been deleted by the suspected perpetrator.

US-listed precious metals miners, including First Majestic, Coeur Mining, and Endeavour Silver, also rose between 1.8% and 3.3%, as gold and silver prices hit new record highs.

Advancing stocks outnumbered decliners on the New York Stock Exchange by a ratio of 1.11 to 1, while declining issues led advancers on the Nasdaq by a ratio of 1.34 to 1.

The S&P 500 recorded 13 new 52-week highs and no new lows, while the Nasdaq Composite posted 18 new highs and 52 new lows over the same period.

The world’s leading reserve currency appears set to record its weakest annual performance in more than a decade. The US Dollar Index (DXY), which measures the dollar against a basket of major currencies, fell by around 10 percent by the end of September, with even sharper losses against several individual currencies.

Over the same period, the dollar declined by 13.5 percent against the euro, 13.9 percent against the Swiss franc, 6.4 percent against the Japanese yen, and by 5.6 percent against a basket of major emerging market currencies.

What drove the dollar sell-off in 2025?

The decline reflected a combination of long-standing structural pressures and new vulnerabilities that became more pronounced in 2025.

Persistent concerns included rising US debt burdens, which were exacerbated by the passage of the so-called “Big Beautiful Act,” alongside a gradual erosion of the US growth advantage, particularly amid uncertainty surrounding tariffs.

At the same time, new risks emerged. Global investors began increasing hedges against their exposure to US assets, reversing years of declining hedging when confidence in so-called “US exceptionalism” was at its peak. Political uncertainty also weighed on sentiment, ranging from questions over Federal Reserve independence to heightened market sensitivity to tariff-related headlines.

Together, these forces produced one of the most notable episodes of dollar weakness in recent memory.

Three key questions heading into 2026

1. Is the dollar on a structural downtrend?

Despite the sharp recent decline, the evidence does not point to a full structural breakdown of the dollar. Most of the weakness reflects cyclical and policy-driven factors: slowing US growth, narrowing interest rate differentials, persistent fiscal deficits, and elevated inflation. Shifts in global capital flows, renewed hedging of dollar assets, and declining confidence in US economic policymaking added further pressure.

That said, key structural pillars remain intact. The dollar continues to dominate as the world’s primary reserve and settlement currency and retains its safe-haven appeal during periods of stress.

As a result, the dollar appears more likely to be entering an extended phase of cyclical weakness rather than a long-term structural decline.

2. Has the 2025 decline made the dollar attractive again?

While the sharp sell-off has improved valuations compared with earlier in the year, a longer historical perspective suggests the dollar remains relatively expensive. Among 34 major developed and emerging market currencies, only nine are considered more overvalued than the dollar. This implies the dollar has become relatively cheaper, but not genuinely cheap.

3. How should investors position their portfolios?

For US-based investors, this environment offers an opportunity to increase exposure to non-US markets, not only because many provide better risk-adjusted returns, but also because foreign currency exposure now offers greater upside potential relative to the dollar.

For investors outside the United States, dollar exposure is often already high due to the heavy weighting of US equities in global indices. In this case, balancing the costs and benefits of currency hedging becomes critical.

Hedging costs and returns vary widely. They are close to zero for UK-based investors, reach around 4 percent annually in Japan or Switzerland due to wide interest rate differentials, and can even generate positive returns for investors in high-yield markets such as South Africa.

What could replace the dollar?

Over the long term, even with continued dollar weakness, identifying a clear alternative remains difficult. Gold has gained popularity as a safe haven, but the absence of cash flows complicates valuation, while its high volatility limits reliability.

The Japanese yen appears attractive on valuation grounds, but replacing exposure to US equities with Japanese equities purely for currency reasons is impractical given the dominance of US markets. Fully hedging into a third currency also adds complexity and cost.

As a result, a gradual and flexible approach to currency hedging appears most appropriate, taking into account differences in inflation and interest rates across countries.

Trade war dynamics and a paused Fed dominate 2025

The dollar is set to end 2025 in negative territory, erasing the previous year’s gains and returning to levels last seen in 2022, despite the Federal Reserve remaining largely on hold for most of the year.

Donald Trump’s return to the White House and the launch of “Trade War 2.0” weighed on sentiment, as investors feared tariffs would be more damaging to the US economy. However, the subsequent conclusion of trade deals on relatively more favorable terms for the United States helped support a modest rebound in the dollar over the summer.

As recession fears eased, inflation expectations rose on concerns about the price impact of tariffs, prompting the Fed to adopt a cautious stance and signal a willingness to look through temporary price increases as long as secondary inflation effects did not emerge.

Labor market and inflation: the 2026 dilemma

As the labor market cools, the Federal Reserve faces the risk of stagflation, a scenario that could extend into early 2026. Despite Jerome Powell’s efforts to temper market expectations for rate cuts, investors are pricing in further easing, particularly given the possibility of appointing a more dovish Fed chair.

However, these cuts may occur in the context of a weaker economy rather than a low-inflation environment, leaving the dollar vulnerable to further pressure, especially in the first half of 2026.

The yen

A resumption of Fed easing at a time when other central banks have paused rate cuts leaves the dollar exposed to additional weakness, at least in the first quarter of 2026.

Against the yen, the 140 level remains a critical test, with a risk of Japanese authorities intervening if the currency weakens beyond 158–160 per dollar.

At the same time, the Bank of Japan may become more assertive in raising rates later on, particularly if wage growth continues and inflation remains above 2 percent.

The euro and the pound: diverging paths

For the euro, the 2026 trajectory will depend on the resilience of European growth relative to the pace of US rate cuts. The euro-dollar pair could move back toward 1.20 in a positive scenario, or fall to the 1.13–1.10 range if Europe disappoints.

The outlook for the pound appears more challenging. Slowing growth and easing inflation toward 2 percent point to further rate cuts by the Bank of England, implying additional pressure on sterling.