Analysis: The dollar turns as investors bet on growth outside the United States


A US one dollar banknote is seen in this illustration taken November 23, 2021. REUTERS/Murad Sezer/Illustration

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NEW YORK, Jan 19 (Reuters) – Foreign exchange investors are less sure about the U.S. dollar’s outlook now than they have been for many months, prompting sharp swings in the greenback last week despite searing inflation data and a hawkish Federal Reserve.

“Everyone was positioned for a stronger dollar” heading into the new year, said Jack McIntyre, portfolio manager at Brandywine Global. Then last week, the US dollar currency index, which tracks the greenback against six major currencies, fell 1.2% before paring losses to end the week down 0.6%.

The decline came after Fed Chairman Jerome Powell said the U.S. economy was poised for the start of tighter monetary policy and data showed the largest annual rise in inflation in nearly four decades.

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Dollar bears see recent volatility as proof that plenty of good US economic news has already been priced in after international money market speculators left 2021 with a net long position in the dollar valued at around $20 billion, close the most bullish in two years.

USD holdings

For months, the dollar had been supported by the idea that monetary policy in the United States was likely to normalize at a faster pace than in many advanced economies. Today, investors are increasingly confident about other parts of the world and are looking for economies where growth may surprise on the upside.

Goldman Sachs recently stated that the Eurozone will overtake the US economy over the next two years. “I think we’re seeing a transition in the currency markets. It has less to do with relative monetary policy and more with relative growth,” McIntyre said.

“It’s not going in a straight line…but at the end of 2022 the dollar will be weaker,” said McIntyre, who after being generally neutral on the dollar for months, began selling dollars to fund the move. purchase of higher yielding currencies.

McIntyre said he was long the Australian dollar and the Swedish krona.

Investors did not rush to buy dollars even as short-term US Treasury yields climbed. An early-year sell-off in bond markets has pushed 2-year yields up about 23 basis points this year. Lisa Shalett, chief investment officer at Morgan Stanley Wealth Management, noted that this goes against the trend in 2021.

“This could signal a regime shift in which the dollar peaks and begins to reflect a compression in relative growth and real returns against the rest of the world,” Shalett said in a note.

The dollar could come under more pressure if global equities start attracting money from the United States, said Brian Rose, senior economist at UBS Global Wealth Management, noting that the greenback was supported last year by strong capital flows to Wall Street.

International equity indices that have started well this year include India’s S&P BSE Sensex Index (.BSESN), up 4.3%, Britain’s blue-chip FTSE 100 Index (.FTSE), up 2 .4% and the Hong Kong Hang Seng Index. (.HSI), up 3.1%. The S&P 500 Index (.SPX) is down 4.0%.

“International investors hold a huge amount of dollar assets,” Rose said. “We have long believed that the dollar is vulnerable to capital flows that suddenly reverse.”

Paresh Upadhyaya, director of FX strategy at Amundi Pioneer, believes the dollar’s safe haven allure could falter if COVID-19 becomes less deadly and investors worry less about serious economic ramifications.

“If we make this transition, all of a sudden the risks to growth go down,” Upadhyaya said.

“The dollar loses that flight to the shine of quality,” he said.


Upadhyaya, however, has a health warning for those looking to jump on the dollar bear market wagon, he said.

Markets may not have priced in the full extent of possible Fed aggressiveness, including the potential some investors see for a 50 basis point interest rate hike as early as March, a said Upadhyaya.

“Given how quickly the Fed has reacted in terms of policy easing … I also wouldn’t rule out the possibility that the Fed could increase aggressively,” he said.

A more aggressive Fed could also bolster dollar-biased carry trades, a strategy in which investors sell low-yielding currencies to buy higher-yielding ones and pocket the difference, HSBC analysts said in a note. last week.

Indeed, some investors used last week’s dollar weakness as a buying opportunity.

“We’ve seen some clients buying dollars opportunistically during this pullback,” said Peter Ng, senior FX trader at Silicon Valley Bank.

Despite the recent wobble in the dollar, the spread between treasuries and German 10-year yields is 185 basis points, about as supportive of the dollar as it was two months ago.

“The start of 2022 has been difficult for the USD, but we view the fashionable disregard for relative monetary policy as unsustainable,” HSBC analysts said.

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Reporting by Saqib Iqbal Ahmed; Additional reporting by Saikat Chatterjee; Editing by Ira Iosebashvili and David Gregorio

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