Can the euro continue to rise? - May 05, 2025

Mistrust of the US administration has made the European currency more attractive to investors. But could this renewed optimism about the euro be undermined by easing trade tensions and lower ECB rates?

Buoyed by the announcement of Germany's budget plan and the external shock of Donald Trump's trade war, the euro has recovered significantly since its low point in January. Overall, however, its appreciation since the US elections remains modest, at +4% against the dollar and +3% against the eurozone's trading partners as a whole (Chart 1).

The idea of a sustained weakening of the dollar, fueled by mistrust of the US administration, is maintaining a favorable consensus for the euro. However, the recent trade de-escalation is tempering this outlook. Experts at Goldman Sachs estimate that the trade war accounts for 40% of the recent rise in the euro. Furthermore, the ECB's key interest rate cuts—at a time when the US Federal Reserve is holding back—are widening the yield differential to the detriment of the European currency (Chart 2). Finally, the strength of the euro could become a burden for European exporters, nearly 50% of whose sales are denominated in dollars.

However, it is possible to chart a virtuous path for the euro's rise – i.e., a rise that does not simply reflect a crisis of confidence in the dollar – under certain conditions. If the trade de-escalation continues, it would raise hopes for a bilateral agreement between the EU and the US, which would remove a major obstacle to Europe's economic outlook. In addition, a lull – still highly hypothetical – on the Ukrainian front would also have a positive effect, reinforcing the recent decline in energy prices in Europe. Finally, if the ECB's rate cut helps to restart the credit cycle – which is beginning to happen on the demand side – this rate cut would not be bad for the euro as it would support the domestic economy. Combined with the stimulating effect of the German budget plan, this momentum would provide fertile ground for a gradual appreciation of the euro, which remains undervalued by around 20% against the dollar according to the OECD's estimated purchasing power parity (Chart 3).

In our portfolios, we are maintaining a cautiously constructive central scenario for equity markets, supported by trade de-escalation and supportive policies in Europe and China. We remain hedged against currency risk. The risk of economic disappointment is factored into our management via long positions in European and US government bonds.