The U.S. dollar is on track for its worst annual performance in over two decades in 2025, as investors bet on further Federal Reserve rate cuts next year, while some other central banks are expected to tighten policy.
On December 24, the dollar index fell to a two-and-a-half-month low of 97.767, with a year-to-date decline of 9.9%, marking its steepest annual drop since 2003.
The greenback has endured a volatile year, with former U.S. President Trump's chaotic tariff policies earlier triggering a confidence crisis in U.S. assets. Growing concerns over Fed independence due to his increasing influence also weighed on the currency.
HSBC analysts noted in a currency outlook report: "The dollar's risk premium expanded in December, suggesting its weakness reflects not just monetary policy expectations but also heightened concerns about Fed independence."
"With many G10 central banks holding steady, we believe the Fed's liquidity operations and dovish bias point to further dollar downside."
In contrast, the euro rose to a three-month high of $1.1806, gaining over 14% this year - its strongest performance since 2003.
The European Central Bank kept rates unchanged last week while raising some growth and inflation forecasts, potentially closing the door on near-term policy easing.
Traders now see little chance of ECB tightening next year, aligning with expectations for Australia and New Zealand where rate hikes are considered the next move.
This has boosted the Australian and New Zealand dollars, with the Aussie up 8.4% year-to-date at a three-month high of $0.6710 on Wednesday.
The kiwi dollar also hit a two-and-a-half-month peak at $0.58475, gaining 4.5% this year.
Sterling rose to a three-month high of $1.3531, with over 8% annual gains. Markets price in at least one Bank of England rate cut by mid-2026, with about 50% odds for a second reduction by year-end.
