June 2025 Monthly

Navigating the global economy and managing capital market volatility has always posed challenges, but the uncertainties emanating from Washington make this task exceptionally treacherous. The so-called reciprocal tariffs announced on April 2 were postponed for 90 days just one week later, ostensibly to usher in a period of intensive negotiations. Yet a few weeks into this cooling-off period, despite claims of dozens of deals in the pipeline, the Trump administration acknowledged it "lacked the capacity" to negotiate with everyone simultaneously. Instead, it indicated it would simply announce new tariff schedules unilaterally in what appears to be a second "Liberation Day." Then, in late May, the US Court of International Trade found that the Trump administration overstepped its authority under the International Emergency Economic Powers Act. An appellate court upheld the tariffs pending a higher court review. The White House will continue to press its case and/or find a different authority. Congress does not appear close to clawing back the power on trade it has delegated. At the same time, the capricious and unpredictable nature of US policy was underscored by the doubling of steel and aluminum tariffs to 50% on May 30 (effective June 4). 

The escalating tariffs and counter-tariffs between the US and China have morphed into what effectively constituted an embargo between the world's two largest economies. This trade rupture threatened to disrupt US supply chains catastrophically while driving the economy toward recession. The loss of US demand, combined with higher tariffs on countries where Chinese and foreign companies had outsourced mainland production, weighed on China's economic activity. 

Despite the 90-day negotiating respite, tariffs remain considerably higher than previous levels. Meanwhile. Container ship traffic surged before the respite was granted but has since slowed again. This frantic stockpiling has led many economists to downgrade recession probabilities for the US. The Peterson Institute estimates that average US tariffs on Chinese goods now hovers around 51%, while China's average tariff on US imports reaches approximately 32.5%. Meanwhile, the average US tariff on the rest of the world sits just below 12%, compared to China's average tariff of roughly 6.5% on non-US goods.

This cease-fire, however, should not be mistaken for peace. Days before the Sino-American détente in Switzerland, Washington struck a basic trade agreement with the UK that many observers—particularly in Beijing—viewed as an overt attempt to lock China out of British supply chains. Within days of the Swiss meeting, the US issued a formal warning against using Huawei AI "anywhere in the world," characterizing such use as a violation of US export controls. 

Beijing took serious umbrage at this sweeping assertion, claiming it undermined the recently negotiated agreement. While the US reportedly softened the "anywhere in the world" language, this concession failed to satisfy Beijing, which threatened unspecified retaliation.  In addition, the administration announced new controls on jet engine part exports to China, threatened to revoke student visas from China, and imposed new restrictions on the sale of chip design software.

As May wound down, US Treasury Secretary Bessent acknowledged that the talks with China stalled, while the Trade Representative office complained that Beijing has not expedited its approval for critical minerals and metals. Still, China's ability to capitalize on the apparent vacuum created by US foreign policy has been constrained by its own aggressive trade practices and regional bullying, affecting not only Taiwan but also the Philippines, Japan (over the Senkaku/Diaoyu Islands), Bhutan, and Nepal.

China is nonetheless making significant headway in two critical areas. First, the internationalization of the yuan has accelerated dramatically. Last year witnessed a record volume of panda bonds—yuan-denominated bonds issued by non-Chinese entities, including governments and corporations—totaling 109 issues worth approximately CNY195 billion ($26.7 billion). This year has reportedly started even more robustly. Chinese banks themselves have begun shifting from dollar-denominated to yuan-denominated lending. While this shift partly reflects cyclical considerations—Chinese interest rates remain considerably lower than US and European rates—it also signals the continued maturation of yuan markets in a self-reinforcing cycle. The desire to de-dollarize or de-risk international transactions, given the extensive reach of US sanctions, likely plays an additional role.

Second, just as Russia's invasion of Ukraine has provided a proving ground for new weapons and tactics, the recent confrontation between India and Pakistan offered China an opportunity to test its latest armaments in combat. Press coverage suggests that China's J-10C fighter jets performed better than many anticipated, though its HQ-9 surface-to-air missile systems may have disappointed. Given the sheer number of increasingly educated and skilled personnel in China's defense sector, it appears some critical threshold has been crossed, suggesting more Deep Seek-like technological breakthroughs lie ahead.

If one word could characterize the current business climate, it would be uncertainty. The drip-feed of tariffs, policy reversals, and ongoing sectoral investigations—spanning movies, semiconductor chips, pharmaceuticals, and timber—combined with "flooding the zone" tactics, has bewildered businesses and investors alike.

While there is general recognition that the 0.2% economic contraction in Q1 represented a significant distortion caused by efforts to front-run tariffs—leading to a historic import surge, stronger consumption, and elevated business investment, particularly in inventories—modest growth appears to have returned in Q2. 

Nevertheless, concerns persist. At a fundamental level, we expect poor sentiment reflected in surveys to percolate into real sector data. The labor market remains key, and between government layoffs and the hiring slowdown, unemployment looks set to rise. Tourism is expected to weaken considerably as European and Canadian bookings have fallen sharply. Like the tariffs themselves, both formal and informal curbs on immigration carry both inflationary and contractionary implications.

A critical question is whether global investors will join tourists in their informal consumer boycott of US brands abroad and withdraw their savings from American markets. Many observers expect this outcome, particularly on days when US bonds are sold but the dollar falls despite ostensibly supportive higher interest rates. Yet the dollar does not always move in tandem with US rates. The rolling 60-day correlation between Dollar Index changes and 10-year US yields rarely exceeds 0.60 and spent several months in 2022 inversely correlated. Extended periods of inverse correlation have occurred before, with the longest recent stretch running from March 2011 through May 2013.

US equities have underperformed thus far this year, while the 10-year US Treasury yield is off around 15 basis points, which is the most within G7 countries. On the other hand 10-year Japanese yields have risen by about 40 bp, 14 basis points in Germany and eight basis points in the UK. The greenback has weakened against the world's currencies, except against a few emerging market currencies.

American and international investors began the year overweight US assets, compelled by their remarkable outperformance. While some portfolio adjustments have occurred, concluding that a capital strike against the US is underway—or as former Treasury Secretary Lawrence Summers quipped, that America is "acting like an emerging market" appears premature. Observers and media frequently construct structural narratives around what are ultimately cyclical or tactical shifts. While something more profound may be occurring, it will require time to manifest clearly in the data.

After Moody's stripped the US of its AAA rating, the Swiss National Bank president explained from a reserve manager's perspective that "US Treasuries remain extremely liquid. There is currently no alternative to them, and none is foreseeable." In a similar vein, Canada’s largest pension plan indicated that US holdings accounted for 47% of its portfolio at the end of March, up from 42% in 2024 and 36% in 2023.

The US Treasury's International Capital report (TIC) revealed that foreign investors purchased a net $350 billion of US stocks and bonds in Q1 2025, compared to less than $40 billion in Q1 2024. Selling pressure appeared to intensify around what President Trump dubbed "Liberation Day" in early April, though some investment flow reports suggest domestic investors were notable sellers. Occam's razor dictates that simpler explanations are preferable pending additional data, and in this context, we should assume cyclical portfolio adjustments are at work rather than fundamental structural shifts.

Bannockburn's World Currency Index, a GDP-weighted basket of the currencies of the 12 largest economies, rose for the fifth consecutive month in May. After rising by more than 1% in both March and April, the BWCI appreciated by a more modest 0.20% in May. This reflected the continued but slowing appreciation of most of the foreign currencies against the dollar. 

Among the currencies from high income countries, only the yen fell against the dollar, the euro rose by less than 0.2%.  The Australian dollar did only slightly better, while the Canadian dollar rose by almost 0.5%.  Sterling's gain of slightly more 1.1% led the G10 components, but three currencies from developing economies outperformed it. The Russian ruble was the strongest currency in Bannockburn's World Currency Index, rising by about 5.8%, followed by the South Korean won's 3.0% gain. The Chinese yuan gained almost 1%. The Mexican peso held on to around a 0.9% gain after pulling back into the end of the month. The Brazilian real fell by about 0.85%, The Indian rupee was the weakest member of the BWCI, and it fell by about 1.25% against the dollar in May. 

Through last month, the BWCI rose 3.4% in 2025. It fell for the past four years, including last year's 7.3% slide. It is struggling near 91.00 and has been consolidating between around 90.00 and 91.00 since mid-April. A convincing move through 91.25 could target the 92.30-45 area. 

 

U.S. Dollar:   The US has launched two initiatives that have contributed to the dollar's decline in recent months. Economists often seem not to agree with each other, but there is widespread recognition that that tariffs are a tax on importers that can be divided between businesses (narrower profit margins) and consumers (higher prices). Surveys of US businesses confirm that the majority will be raising prices. The other initiative is the "big, beautiful budget" that was narrowly passed by the House of Representatives after Moody's took away the US triple A rating. You cannot say Moody's hasn't been patient with both political parties. S&P first cut the US AAA rating in 2011. Inflation will likely seem particularly sticky in May and June when the CPI was flat in 2024. The labor market is key, but even if job growth slows to 130k in May, as the median forecast in Bloomberg's survey says, the three-month moving average would tick up. We suggest that only a marked deterioration of the labor market will spur the market to bring next cut back from Q4 where it has been pushed in recent weeks. The US 10- and 30-year yields rose by around 25 bp in May, and many reasons have been offered. The most compelling one is often the simplest. The nearly 50 bp rise in the expected year-end policy rate can alone explain the rise in the long-term yields. The failure of the dollar to draw more succor from the backing up of rates lends credibility to our framing that given the uncertainty surrounding the US, investors are demanding higher premiums to hold dollars.  

Euro: The euro's rally accelerated in April, when it rose 4.7% against the dollar, the most in any month since May 2009. Moreover, it was the second consecutive month that it rose by more than 4%, and it was the fourth consecutive monthly gain. It eked out a minor gain in May but reached $1.1575, its highest level since November 2021. It corrected to about $1.1065 where it held technical support. Buyers emerged to lift it back to almost $1.1420. The US threat to impose a 50% tariff on all EU goods caused the euro to briefly wobble, but the market quickly concluded that this was likely a negotiating tactic, and the US extended the deadline to July 9, when the postponement of the so-called reciprocal tariffs expire. We expect additional euro gains in the coming weeks and see potential toward $1.1650. The key driver seems its deep and liquid alternative to the dollar, and portfolio re-allocation decisions rather than EMU developments. Further out, the euro may be on its way back to $1.20. The new German government reversed previous opposition to allowing nuclear power to be considered among the "renewables" for EU purposes and this may set the stage for additional agreements. The swaps market has no doubt that the European Central Bank will cut key rates by 25 bp at its June 5 meeting. That would bring the deposit rate to 2.0%. It seems reasonable to expect the ECB's path will become less aggressive as the neutral rate (suggested by ECB President Lagarde to be near 1.75%) is approached.

(As of May 30, indicative closing prices, previous in parentheses)  

Spot: $1.1345 ($1.1365) Median Bloomberg One-month forecast: $1.1300 ($1.1140) One-month forward: $1.1370 ($1.1385) One-month implied vol: 7.9% (9.3%)  

 

Japanese Yen: The dollar's four-month down draft against the yen ended in May. The dollar rose by almost 0.5% last month. Although the correlation of the daily changes in the exchange rate and the 10-year Treasury yield slackened, the US 10-year yield also rose for the first time in five months in May. The swaps market has 16 bp of tightening discounted at the end of the year, unchanged from the end of April. The combination of elevated inflation and the central bank's pullback of its JGB purchases saw pressure mount on the long end of the Japanese yield curve. The 30-year bond yield rose by around 26 bp, to trade above 3% for the first time since 2001. The 40-year yield jumped more than 40 bp to reach 3.70% but reversed in recent days to settle the month almost unchanged. The US-Japanese 10-year differential is near 292 bp after finishing April near 285 bp. Japanese officials want to strike a trade deal with the US in June, ahead of the end of the 90-day postponement of the reciprocal tariffs and the July upper house election. The BOJ owns more than half of the outstanding government bonds, but one would imagine that the Japanese banks and insurance companies may also vulnerable. Yet, Topix indices for both sectors rose in May. There is some speculation that Japanese officials will try to persuade banks and insurance companies to buy more government bonds. Since an important alternative is US bonds, this is being incorporated into dollar-bear scenarios. The dollar tested important support near JPY140 in April and recovered to JPY148.65 in May before coming under new pressure. A convincing break of the JPY140.00 area (the 2024 low was near JPY139.60) would be seen to confirm a long-term top.

Spot: JPY144.00 (JPY143.65) Median Bloomberg One-month forecast: JPY144.00 (JPY144.80) One-month forward: JPY143.55 (JPY143.20). One-month implied vol: 11.1% (11.9%) 

 

British Pound:  Sterling was driven to new three-year highs in late May to almost $1.3600 by two forces. The first was the broad weakness of the dollar, and the second was a reconsideration of the trajectory of Bank of England policy. Stronger-than-expected Q1 GDP, which at 0.7% (quarter-over-quarter) put it atop the G7. Higher inflation, especially core (3.8% vs. 3.4%) and services (5.4% vs. 4.7%) and retail sales contributed to the swaps market raising its anticipation of the year-end base rate to 3.85% from 3.50% at the end of April. The base rate target is 4.25% now. There is practically no chance of a BOE rate cut at the June 19 meeting, and the odds of a cut at the August 7 meeting are around 40%. The next cut is not fully discounted until November. The UK reached a framework of a trade deal with the US and finalized a free-trade agreement with India. The UK also struck an agreement with the EU that begins re-building a post-Brexit relationship. Sterling's gain in May was not particularly large. In fact, it was slightly less than half of the nearly 3.2% gain in April. There is little on the charts to deter a move toward $1.3650. Yet, with a four-month advance in tow, the longest streak since 2009, sterling appears to be getting stretched.

Spot: $1.3460 ($1.3315) Median Bloomberg One-month forecast: $1.3300 ($1.3160) One-month forward: $1.3465 ($1.3320) One-month implied vol: 7.6% (8.2%)  

 

Canadian Dollar:  Elevated underlying core inflation measures prompted a downgrade of the chances of a Bank of Canada rate cut when it meets on June 4. Before the news that core inflation accelerated more than 3% year-over-year for the first time since Q1 24, the swaps market was discounting almost a 70% chance of a June cut. The odds have been halved, but economists in Bloomberg's survey still favor a cut. The target rate is now 2.75%. The market puts it near 2.35% for the end of the year, which implies one cut is fully discounted and almost 60% chance of another. Economists are worried that the disruption coming from the US is a powerful headwind. The median forecast in Bloomberg's survey sees the economy contracting this quarter and stagnating next. The Bank of Canada forecasts growth this year of 1.8% year-over-year. The median projection in Bloomberg's survey is for 1.2% and the IMF says 1.4%. The US dollar fell below CAD1.37 to reach its lowest level since last October. We suspect there is potential toward CAD1.3400.

Spot: CAD1.3740 (CAD 1.3865) Median Bloomberg One-month forecast: CAD1.3900 (CAD1.4025) One-month forward: CAD1.3720 (CAD1.3856) One-month implied vol: 6.1% (6.4%)   

 

Australian Dollar:  The Reserve Bank of Australia delivered its second quarter-point cut of the year in May, which brought its cash target rate to 3.85%. Governor Bullock acknowledged that a half-point cut was considered. The Australian dollar wobbled on the dovish cut but quickly recovered and returned toward the high for the year set in early May near $0.6515. The futures market is pricing around 2/3 the chance of quarter-point cut at the next RBA meeting in July. Between now and the end of the year, the market has three cuts fully discounted. The most important macroeconomic data that may influence the July decision include the employment report on June 19, the May CPI on June 25, and May household spending on July 4. A move above $0.6550 targets the $0.6700-$0.6750 area. 

Spot: $0.6430 ($0.6395) Median Bloomberg One-month forecast: $0.6400 ($0.6350) One-month forward: $0.6435 ($0.6400)   One-month implied vol: 10.1% (11.0%)  

 

Mexican Peso:  The US switch from encouraging near-shoring and friend-shoring to on-shoring threatens Mexico's economic strategy. The US is also threatening to tax worker remittances by non-Americans, and this threatens a key source of hard currency for Mexico. The economy is weak though after contracting by 0.6% in Q4 24, it eked out a 0.2% expansion in Q1 25. The central bank cut its forecast for 2025 growth to 0.1%, but this may prove to be too optimistic. The IMF warns of a 0.3% contraction this year, while the median forecast in Bloomberg's survey sees a stagnant economy. The central bank has delivered three half-point rate cuts this year and is set to deliver another when it meets on June 26 (which will bring the overnight target rate to 8.0%), even though headline inflation is moving above the 3% +/-1% target. Nevertheless, the peso continues to demonstrate impressive resilience. With nearly 1.7% appreciation in May, the peso rose by nearly 8% this year against the dollar and reached its best level in seven months. There is scope for additional gains, partly fueled, it appears, by short dollar/long peso carry trades. Near-term technical potential exists for the dollar toward MXN19.00.

Spot: MXN19.4375 (MXN19.5050) Median Bloomberg One-month forecast: MXN19..5285 (MXN19.9870) One-month forward: MXN19.5125 (MXN19.4840) One-month implied vol: 10.6% (11.5%) 

 

Chinese Yuan:  Contrary to conventional wisdom that anticipated a significant depreciation of the yuan to offset the US punitive tariffs, the yuan strengthened. In fact, by late May, the yuan was trading at six-month highs against the US dollar. Our working hypothesis remains that Beijing does not want a weak or strong yuan, but one that is broadly stable against the US dollar. This broad stability against the greenback means that in the current weak US dollar environment, the yuan tends to gain competitive advantage against most of its other trading partners. The PBOC reduced key rates and reserve requirements last month. It also provided more liquidity through the one-year medium-term lending facility. More fiscal efforts to support domestic demand appear needed for the 5% GDP target to be reached, especially given the still high tariffs the US is imposing and other efforts to lock China out of supply chains. Many observers attribute China's economic challenges to under-consumption but consumption has been rising at compounded annual growth rate of around 8% since at least the Great Financial Crisis. The reason that consumption has not accounted for a large share of GDP is that investment has risen slightly faster. Over-investment ripples through nearly every sector to which China's industry turns. Chinese businesses, however, compete for market share more so than profits. 

Spot: CNY7.1990 (CNY7.2870) Median Bloomberg One-month forecast: CNY7.2500 (CNY7.3320) One-month forward: CNY7.1725 (CNY7.2135) One-month implied vol: 4.6% (4.8%)

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