The dollar's dominance has peaked now that inflation is falling and Fed tightening has been priced in, State Street strategist says

The dollar's dominance has peaked now that inflation is falling and Fed tightening has been priced in, State Street strategist says
The dollar's dominance looks set to wane with the Federal Reserve likely to start easing up on its tightening campaign, according, according to State Street.SOPA images
  • The US dollar has jumped 12% this year, led higher by Federal Reserve interest rate hikes.
  • But the greenback now looks "extremely overvalued," according to a State Street macro strategist.

The US dollar's dominant run this year looks like it's about to come to an end, according to a top macro strategist at State Street Global Markets.

The bank's head of Asia-Pacific macro strategy Dwyfor Evans told Bloomberg TV Tuesday that the greenback has likely peaked as market expectations of inflation prints start to fall.

"Let's not forget that the dollar is extremely overvalued. It's extremely overweight in terms of positioning," he said. "We're actually neutral dollar right now. We think we're moving towards an environment that is actually going to be more supportive for some of the higher-beta currencies."

The US Dollar Index – which tracks the buck's performance against a basket of six other currencies – has jumped 12% to 107.50 in 2022 thanks to the Federal Reserve's tightening campaign.

Rising interest rates tend to support a currency's value because they attract international investors seeking higher yields, and the Fed has outpaced other central banks by implementing 75-basis-point hikes at four consecutive meetings in a bid to bring inflation under control.


But Evans said that most available data signals that inflation has now peaked after the US Consumer Price Index rose by a lower-than-expected 7.7% last month.

"Inflation in the US is actually falling quite sharply on a short-term basis in various sorts of sectors," he said. "Given the very challenging base effects on the headline, we're going to see quite a sharp fall in the headline rates of inflation."

"So I think there are plenty of signals out there that actually suggest the worst is over as far as inflation is concerned – famous last words, but that's what we're going by in any case," Evans added.

That will likely allow the Fed to ease up on its rate hikes from next month onwards, which would weigh on the dollar and be bullish for riskier assets like commodity-linked currencies, according to Evans.

"The tightening of policy by the Fed is actually priced in," he said. "If there's any deviation away from what's priced in, it's likely to be the Fed just a little bit more able to potentially misprice by cutting less going forward."


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