The future of the US Dollar

I am always very wary of “one-way bets” because, depending on when you enter this “bet”, you may be susceptible to any “countertrend” move, or you may get in at the end of the trend.

So far this year, the US Dollar (USD) can be seen in this light, with the USD index (DXY) falling from close to 110, to a low at 98 in April. It has since stabilised somewhat due to the de-escalation in trade tensions. Should investors continue to sell the USD?

USD lagging in the recovery in risky assets

Let’s start by comparing financial prices across asset classes. So, for example, the S&P 500 index has already recovered most of its losses (since the escalation in trade tensions in early April 2025) as the US shifted focus towards negotiating trade deals with key partners. However, the USD has been the laggard among major financial assets as FX investors want to see some hard evidence of US policy stability before returning substantially to the USD.

Short-Term: Rebound from oversold positions

In the near-term, it is reasonable to expect a USD bounce in the short-term following the recent weakness. This has been one of the sharpest USD sell-offs that we have seen since the start of any US cross-asset drawdown in recent decades. There two common features that support USD bear trends: (1) ongoing US economic underperformance relative to the rest of the world; and (2) persistent US equity market outflows. In this instance, the second factor is missing since we are seeing persistent “buy-the-dip” behaviour among investors in the last few weeks. Hence, we are unlikely to see a sustainable USD weakness.

There is usually a corrective bounce after a sharp selloff, when momentum behind the initial sell-off fades and investors unwind their bearish trades. Positioning of investors who trade based on momentum show that we are close to some key “stop levels”. Thus, there is a high probability that we will see a “short squeeze” on the USD as the bearish positions are unwound.

Long-Term: “US exceptionalism” shaken

However, over the longer-term, the narrative around “US exceptionalism” and the pre-eminence of the USD is being questioned. Yes, the motivation behind recent US policy actions, such as imposing tariffs on trade partners, is an attempt to reduce the US trade deficit and restore investors’ confidence in the USD. However, the uncertainty around US policies is leading to questions on whether global investors are “excessively” positioned in US assets.

USD depreciation partly reflects a move by global investors to reduce what had become a historical overweight position in the USD. This overweight was reinforced as global exporters are choosing to keep their receivables in USD rather than repatriate or even hedge back to their home currencies. The question now is whether the USD selling will continue. Has confidence in US policy and institutions been irrevocably weakened that will prompt a structural decline in the USD?

Gold to benefit from diversification away from USD

Against this backdrop, the need for diversification away from the USD explains this year’s strong performance of the traditional safe haven, gold.

Even with the latest thaw, US-China trade talks will be protracted and complex. US policies are also likely to stay unpredictable under the current Trump administration. Therefore, gold’s safe-haven demand will not disappear completely. Although prices are likely to continue to correct in the near-term as trade tensions ease, gold’s safe haven appeal should lend a floor to prices.

Meanwhile, a tariff-induced US economic growth slowdown should pave the way for Fed rate cuts in H2 2025, making non-interest-bearing gold relatively competitive. Recent softness in gold prices should also lead to re-acceleration of central bank gold buying, providing structural support for the yellow metal. Thus, investors looking to reduce their excessive exposure to USD assets amid ongoing uncertainty should partly rebalance towards non-US equity and bond markets and use the latest correction in gold prices to allocate some of their assets to the safe haven.

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