Why the Dollar’s Bull Run is Ending

“I was a flag waver for the USD’s bull run two years ago, when the then US Federal Reserve chief Ben Bernanke first started to talk about tapering (the Fed’s quantitative easing (QE) programmer),” says David Bloom, global head of FX research for HSBC.

Speaking on the opening day of the Association of Corporate Treasurers’ (ACT) conference in Manchester, UK, Bloom said that Bernanke’s remarks coincided with analysts’ perception that emerging market (EM) economies such as Brazil and India suddenly appeared vulnerable. Talk of the BRICS (Brazil, Russia, India, China, South Africa) economic powerhouses was replaced by the phrase “the Fragile Five’ and the yield curve in the US started to steepen.

The USD started to rally and the momentum intensified as the European Central Bank (ECB) finally decided to embrace QE and expectations grew that the Fed would begin to hike US interest rates, says Bloom. However, the rally soon transformed from a positive development to something more dangerous as it began to impact negatively on US corporate earnings.

“US tolerance for the USD’s strength has its limitations,” he adds. “The latest rally has been bigger than average, exceeded only on two occasions – in the early 1980s and in the tech boom-to-bust of the late 1990s.”

Changed Perception

Bloom describes the USD as currently “nearly the world’s most expensive currency fix”, with speculative positioning data suggesting that USD longs are already at historically stretched levels. However, since last October, US economic data has generally been disappointing, whereas the most recent figures from the eurozone have been “surprisingly strong”.

“The dollar can still do well, but its bull market phase is over,” he predicts, although there are several potential scenarios that could change this view. They include intensifying currency wars as Japan loses control of the yen (JPY), reignited fears that the eurozone could break up, excessive USD strength provoking an FX crisis in the emerging markets, and a steepening of the yield curve.

Of one thing Bloom is confident. The Fed is indicating very clearly that US rates will move up a notch this September – a move that has already been factored in by the markets.

He also believes that the outlook for the UK, which “is still displaying deficits that would shame emerging markets FX” is volatile. The continuing debate over whether the UK is to remain a member of the European Union (EU) does nothing to resolve uncertainty and “that won’t be good for the currency”.

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