Source: AFP
Source: AFP
The road to a weaker US dollar will not be smooth. Our medium-term forecasts remain USD bearish, as we expect the US recession to unfold by early next year, forcing the Fed to turn dovish. But for the time being, the USD has found temporary support on three fronts.
Firstly, when there is an increasing probability of higher rates in the US, the greenback tends to do well. The recent rise in US Treasury yields happened alongside recession calls getting push back amid resilient US data. Markets are recognising that the Fed may not have as much room to ease in 2H23 as compared to earlier this month.
The debt ceiling does not look like a game-changer for the US macro-outlook given that it likely to be resolved now with a minimal amount of fiscal tightening. Other things being equal, this should delay the timing of a dovish Fed pivot relative to market’s earlier expectations. The debt resolution could bring about a new form of tightening given the Treasury’s need to replenish cash in the Treasury General Account via a surge in T-bill supply.
USD firmer as market unwinds expectations for rapid 2H23 Fed rate cuts
Source: Bloomberg, Bank of Singapore.
A Fed pause in June remains our baseline. However, what the US taught us is that pausing is hard when growth is still resilient and inflation still sticky. The US interest rate market is now pricing in an over 50% chance of a June hike. This is a major change from a few weeks ago, as markets were priced for a May hike, followed by a June cut.
Secondly, for the USD to go down, the EUR and CNY have to go up. It could be tough for the EUR and CNY to go up for the time being as the recent soft China data fuelled concerns over China’s growth and the potential macro passthrough to European growth. Credit issues have resurfaced in China. Stress in the property sector has returned and local governments are warning about their debt servicing burdens as fiscal revenues have dropped. The downbeat May China PMI surveys have again bolstered expectations that the policymakers may need to do more to stimulate growth.
Overall, the slowdown in the US is slower than expected, while the data in both China and Europe has been disappointing.
Thirdly, artificial intelligence or AI may continue to remain a kicker. Strong results for secular AI-linked trends could benefit the USD given that AI is mostly a US mega large cap equity theme. It is still early days but growing positive correlation between the greenback and AI proxies is worth tracking.
Big picture, we still expect a lower USD over the next 6 to 12 months. However, we stay Neutral on the greenback and defensive overall in the near term.
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