The dollar is poised for its worst year since the onset of the pandemic as Wall Street bets the Federal Reserve is set to lower interest rates after reining in prices.
After being whipsawed by false starts calling for the end of the Fed’s rate hiking regime, a Bloomberg gauge of the greenback is down nearly 3% this year in the steepest annual drop for the US currency since 2020.
Much of the decline materialized in the fourth quarter on growing wagers that the Fed will loosen policy next year as the US economy slows. That dents the dollar’s appeal as other central banks may keep their rates higher for longer.
Swaps traders are now factoring in Fed rate cuts of at least 150 basis points, with the first coming as soon as March. That’s up from less than 100 basis points in mid-November and double what policymakers penciled in at their most recent meeting. Among speculative traders, dollar positioning has become all the more bearish since the Fed’s December meeting.
“Markets are positioned for this ‘Goldilocks’ scenario where the Fed will cut rates enough to stimulate the economy without reigniting inflation pressures,” said Amanda Sundstrom, a fixed income and foreign-exchange strategist at SEB AB in Stockholm. “That’s driving the dollar performance.”
Sundstrom added that the softer dollar is likely to persist in 2024 as US data weaken, but not enough to spur a risk-off bid for haven assets such as the greenback.
Still, the dollar’s recent losses suggest there’s room for at least a temporary rebound. The Bloomberg Dollar Spot Index’s 14-day relative strength index recently fell below 30, a signal to some that the currency is now oversold and primed for a reversal.
Looking out further, the dollar may move in the leadup to the US presidential election in November, according to Koji Fukaya, a fellow at Market Risk Advisory Co. in Tokyo. In particular, Donald Trump’s presence as a candidate could cause political turmoil and inject volatility into the currency, he said.
The Bloomberg dollar gauge held steady on Friday.
Rate divergence
The dollar’s decline stands in contrast to the pound, which is set for its best year since 2017, and the franc, on pace for its strongest annual performance since 2010.
Sterling has rallied more than 5% against the dollar so far in 2023, the biggest gain since the UK currency strengthened 9.5% in 2017. In Switzerland, the franc has risen to record, trade-weighted highs as traders increasingly see the Swiss National Bank holding policy tighter relative to its counterparts, even after a relatively dovish SNB meeting on Dec. 14.
“If I had to pick a central bank most likely to intervene to push down their currency next year it would be the SNB,” said Geoffrey Yu, a currency and macro strategist at BNY Mellon in London. As for the pound, “I won’t chase it aggressively until we get BOE clarity,” he said.
(Adds analyst comment in eighth paragraph. An earlier version of the story was corrected to amend the spelling of an analyst’s name.)
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