Benzinga - by Oleg Spilka, Benzinga Contributor.
Despite a prolonged period of strength, evidence is mounting that the US dollar has begun to run out of steam, with a possibility that the currency has already peaked in 2023 and will continue to plateau into the new year.
According to strategists at Barclays, Morgan Stanley, and National Australia Bank, options positioning has begun to show dwindling sentiment towards to dollar for two months.
Alongside this, gauges of volatility indicate that expected moves in currencies have fallen to their lowest levels for 18 months.
Though the dollar has shown resilience against global currencies like the euro and Japanese yen as regions undergo their own battles with rising energy costs and economic headwinds, multiple indications suggest that the fortunes of USD appear set to change.
But why? Let’s take a look at four signs that the dollar has already peaked:
‘Messy’ Future Looms As Dollar Completes 12-Year Cycle Using the ICE US Dollar Index (DXY), which measures the dollar against a basket of six key counterparts, we can see that a major peak was reached in October 2023 which topped out a cycle that’s been in play since 2011.
These early signs of a trend reversal are likely to see the US dollar weaken its position into 2024 as the global economic fallout of factors like high inflation, interest rate hikes, geopolitical tensions, and the COVID-19 recovery take hold.
“The U.S. economy remains exceptional of course, but as it slows and rate differentials with other countries narrow, the dollar is set to fall back,” explained Kit Juckes of Societe Generale. “In real effective terms, it remains today as strong as it was at the peak of the Asian crisis over 20 years ago, and in the post-Volcker/Reagan era, has only been stronger, briefly, in the summer-autumn of 2022.”
“The rest of 2023 is likely to be messy, as signs of a turn in the U.S. economic cycle come and go, and as we watch to see how much the global economy is set to slow in the months ahead,” Juckes surmised.
Fed Rate Freeze Set To Cause Weakness According to forex strategists, the dollar’s weaknesses are likely to stay throughout 2023 as interest rates in the US appear to have peaked.
The expectations that the Federal Reserve has finished with its rate hikes have hindered the growth of the dollar and saw the currency experience a sharp decline in the opening week of November.
With the negative market reaction to the Fed’s decision, almost two-thirds of FX analysts in a recent Reuters survey, 28 out of 45 participants, stated that the dollar is likely to trade lower than current levels against major currencies by the end of the year.
The underlying cause of the Fed’s decisions causing a negative impact on the dollar stems from falling US Treasury yields, which have declined significantly. Yields on two-year treasuries took a tumble while 10-year yields fell more than 5% in the wake of the Fed’s rate freeze.
USD Enthusiasm Is Dwindling Despite some bullish sentiment lingering for the dollar in October among investment banks as forecasts of USD/EUR parity began to gather momentum, by the end of the month it became clear that traders had begun to lose faith in USD.
According to Bloomberg’s MLIV Pulse survey, which took place between October 23rd and 27th and consisted of 528 respondents, dollar enthusiasm fell by one percentage point to 59% among traders.
In addition to this, 45% of respondents believed that the Nasdaq 100 would fall by up to 10% by the end of Q4 2023, and 85% claimed that the ‘real neutral rate’, which attempts to analyze USD without the impact of inflation, has risen to over 100 basis points from an estimate of around 50bps.
With 2024 that’s set to see higher degrees of volatility due to upcoming US presidential elections, it could be that more risk-averse traders turn away from the dollar in favor of symbols that are less impacted by fundamental analysis over the year ahead.
De-Dollarization Remains Rife De-dollarization escalated to new levels in 2023 as the USD’s position as the world’s reserve currency fell under increasing pressure.
In March 2023, the Chinese yuan became the most frequently used currency for cross-border transactions in China in a move that saw it surpass the US dollar for the first time, according to official data.
This reflects China’s bid to internationalize the use of the yuan and its adoption appears to be growing at an unprecedented rate.
Today, nations like Saudi Arabia, Bangladesh, India, Argentina, Brazil, Pakistan, Iraq, and Bolivia have all either traded in the yuan or expressed an interest in doing so, illustrating that the dollar’s dominance is experiencing greater levels of scrutiny.
As a result, MetaQuotes has opted to release a major update of its MetaTrader 5 terminal in a bid to bring forex traders unprecedented levels of reporting tools to cover these fresh challenges to the dollar.
Notably, the new reporting format’s Symbols section helps to provide a detailed analysis of trades by financial instrument. This helps traders to explore in finer detail the changing attitudes to the dollar using historical data for individual symbols and entire groups alike.
Can USD Confound The Naysayers? According to the US Dollar Index (DXY), you would have to go back to late 2001 to find the dollar’s last great peak. However, with a cocktail of global economic challenges stemming from geopolitical tensions, energy costs, record-breaking inflation, interest rate hikes, and the post-Covid recovery of economies, it’s fair to say that the forex landscape is currently battling an exceptional level of volatility.
With this in mind, it’s tricky to anticipate the peak of a currency with headwinds abound on an international scale.
However, with a looming presidential election and a hawkish Federal Reserve fiscal policy, the dollar could become a conundrum for those monitoring FX markets. The US dollar may have peaked, but it can never be written off entirely.
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