Sell dollar rallies
We see merit in selling the USD on rallies to diversify away from it.
The US dollar has stabilized after tariff pauses and interim trade agreements. Looking ahead, we anticipate renewed dollar weakness as the US economy slows and the focus on fiscal deficits expands. We recommend using near-term dollar strength to reduce excess US dollar cash by investing or diversifying into other currencies such as the yen, euro, pound, and Australian dollar. International investors should also review their strategic currency allocations and consider hedging US dollar exposure in US assets back into their home currencies.
The US dollar remains weighed down by concerns about US tariff policy, the risk of slower growth and higher inflation, and brief concerns about the maintenance of central bank independence. After a brief relief rally and then reversal in the USD, the overall dollar index (DXY) is down 7.8% year-to-date, with the euro and the yen up 8.9% and 9.1%, respectively (as of 22 May).
Looking ahead, we favor using any rebounds in the USD to position for weakening in the USD over the medium term:
- After April’s 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.
- 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 around 1.5% this year, which likely leaves room for more Fed rate cuts beginning September. 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’s 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.
Our USD forecasts across the next 12 months reflect this weakening trajectory. Our EURUSD forecasts are 1.16 in December 2025 and 1.20 in June 2026. We see GBPUSD at 1.38 by December 2025 and 1.40 by June 2026. Our USDJPY forecasts are 140 in December and 136 in June 2026. We see AUDUSD at 0.68 in December and 0.70 in June 2026. Following the de-escalation of US-China trade tensions, we now look for USDCNY to fall to 7.1 (previously 7.2) by December 2025 and 7.0 in 1H26.
We favor the EUR, JPY, GBP and AUD as good stores of medium-term value in lieu of the USD. We would use bouts of dollar strength to reduce USD allocations in favor of these currencies. We would also sell the USD’s upside potential for a yield pickup. For international investors, we would consider hedging US dollar exposure in US assets back into their home currencies.