February 03, 2025

“A widespread selloff has gripped markets this morning, after Trump launched the first round of aggressive tariffs, which the market had always appeared to be sceptical about. That has necessitated a repricing this morning, leading EUR/USD over 1% lower.”

Tim Hallinan – Trading Director

USD

The market underestimated the likelihood that Trump would follow through on his promise to slap huge tariffs first and negotiate later, and FX is undergoing a painful adjustment this morning as traders reprice the tariff risk premium. The 25% tariffs on Mexico and Canada, which markets never fully believed in, are due to come in force on Tuesday, alongside a 10% tariff on China, in aim of punishing these countries for not doing enough to halt fentanyl and migrant flows into the US. That was market shock #1. Shock #2 was the speed with which it is spiralling into a full-blown trade war, with Canadian PM Trudeau launching retaliatory tariffs on C$155bn of US goods. The same is coming from Mexico, though China has been quite light on pushback given the Lunar New Year holiday.

A big trade war is worst-case scenario for risk appetite, and the dollar has rocketed at the open this morning. USD/CAD has surged 1% to 1.47, USD/MXN is up 2%, and the offshore yuan hit an all-time low. Asia risk proxies NZD and AUD have suffered the most in the G10. In total, tariffs are being slapped on over $1tn in goods tomorrow – more than 40% of total imports into the US. Estimates of the economic impact are incredibly uncertain, but the situation is likely to do two things: a) increase inflation, at least in the near-term, and b) hurt growth significantly. Trump himself said that there would be some ‘pain’ for the US but that ‘it will all be worth the price that must be paid’. Markets have also priced out around 10bps in easing this year.

There is still a chance that a last-minute deal ends the trade war before it starts, but there is no denying that Trump sounds serious. Again, we have to circle back to the fact that Trump’s next move just cannot be predicted with any accuracy.

GBP

Sterling has avoided the worst of the tariff fallout and GBP/EUR has climbed 0.5%. It has been the consensus for some time that the US’ trade surplus with the UK and Trump’s fondness for the country would allow the British economy to steer clear of the sort of tariffs heading the EU’s way. He broadly confirmed that that was the case over the weekend, saying that EU tariffs would ‘definitely happen’, but that a deal ‘can be worked out’ with the UK instead. That has put sterling up against all except the safe havens this morning (CHF, JPY, USD). The tariff story is likely to dominate this week, but the Bank of England decision on Thursday could also be key for the pound. A rate cut is priced at 99.7% this morning, so the focus will be on the vote split, language, and forecasts.

EUR

Despite making attempts at the 1.05 handle just last week, EUR/USD is back in the 1.02-1.03 range this morning. Europe may have avoided the first round of US tariffs, but Trump assured that EU tariffs will ‘definitely happen’ – and there is reason to believe him now. EU leaders have promised a firm reaction when these do come, setting the continent up to follow Canada and Mexico in a trade war. The word ‘parity’ has re-entered the lexicon in financial circles, and naturally we are a lot closer today, having fallen 2.7% since the peak last Monday. On the data calendar today, we get a eurozone CPI print for January, which is expected at 2.4%.

Markets

Equity futures are suggesting that the major indexes are headed for a painful open after the onset of a trade war. The S&P 500 is set for a 2% drop and the Euro Stoxx 50 for a 2.5% plunge.

Main Economic Events (All Times CET)

11:00am: Eurozone CPI
4:00pm: US ISM Manufacturing PMI

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