Sell dollar rallies
We see merit in selling the USD on rallies to diversify out of it.
Following the recent sell-off, we expect the US dollar to stabilize in the near term as the Federal Reserve remains cautious on rate cuts while other central banks ease policy in response to weaker growth. In our view, current dollar levels are only justified if there is a significant deterioration in US economic activity or a major increase in political uncertainty. Over the medium term, we anticipate renewed dollar weakness as the US economy slows and focus shifts to the US's large deficits. We prefer using any periods of near-term dollar strength as an opportunity to reduce USD allocations in favor of currencies such as the yen, euro, pound, and Australian dollar.
The US dollar has weakened significantly over January to April, driven by concerns about US tariff policy, the risks of stagflation, and brief concerns about the maintenance of central bank independence. The overall dollar index (DXY) is down 8.7% year-to-date, with the euro and the yen appreciating by 9.5% and 9.8%, respectively (as of 24 April).
Looking ahead, we favor using any rebounds in the USD to position for weakening in the USD over the medium term:
- Potential near-term support for the USD might come from a reduction in the risk (perceived, at least) of President Trump seeking to remove Fed Chair Jerome Powell before his term ends in May 2026. We think that Powell will ultimately be allowed to serve out his term. The Trump administration is likely to recognize, and elect to avoid, the financial instability that might be engendered by a perceived loss of central bank autonomy.聽
- After April鈥檚 policy turmoil, we believe that institutional investors (especially European ones) are likely to increase their FX hedges on the US assets that they have accumulated over the last few years of underperformance in European risk assets.聽
- Yield differentials are likely to turn against the USD in the coming months. The acute spike in policy uncertainty is likely to leave its mark on gross fixed capital formation and the overall US economy. We anticipate US growth decelerating to as low as 1.5% this year, with negative quarter-over-quarter data readings later in the year. We think this leaves room for more Fed rate cuts than are currently priced in by markets. Furthermore, this Fed easing cycle is likely to resume just as the ECB and other central banks are about to end or have finished their own easing cycles. We also expect focus to shift to the US鈥檚 large twin (i.e., fiscal and current account) deficits. With the US policy risk premium still likely to remain a drag on the USD, the USD should trend lower.
We have lowered our USD forecasts across the board. Our EURUSD forecasts have been lifted to 1.14 in June, 1.16 in September, 1.16 in December, and 1.18 in March 2026. We now see GBPUSD at 1.38 by September 2025 and 1.39 by March 2026. In the Asia Pacific region, we have lowered our USD forecasts for key currency pairs. Our USDJPY forecasts have been cut to 144, 142, 140, and 138. As for AUDUSD, our new June, September, December, and March 2026 forecasts stand at 0.64, 0.66, 0.68, and 0.70. Our USDCNY forecasts have been changed slightly to 7.30, 7.25, 7.20, and 7.15.
In the context of these new forecasts, we like to use any near-term dollar strength to reduce USD allocations in favor of currencies such as the yen, euro, pound, and Australian dollar. We also like selling the USD鈥檚 upside potential for a yield pickup.