Dollar Index Falls 2.9% This Month
Fed Expected to Cut Rates in September
Hedge Funds Sell Dollar to Invest in Emerging Market Assets
The value of the US dollar has fallen to its lowest level this year amid expectations of the Federal Reserve's (Fed) first interest rate cut in September. In the market, a 'dollar carry trade' is emerging, where investors sell the US dollar, which is expected to decline in interest rates, and invest in high-yield assets in emerging markets.
On the 20th (local time), the dollar index, which measures the value of the US dollar against the currencies of six major countries, dropped to around 101.45, marking its lowest point this year. It has fallen about 2.9% just this month and is down 4.5% compared to the peak at the end of June.
Due to the decline in the dollar's value, the euro-dollar exchange rate rose to $1.1110, the highest level this year. The pound-dollar exchange rate reached $1.3052, marking the highest level in 11 months since July last year.
The dollar's value is sharply declining ahead of the Jackson Hole meeting scheduled for the 22nd. With the possibility of the Fed cutting interest rates at the September Federal Open Market Committee (FOMC) meeting being strong, investors are selling dollars while trying to gauge the extent of the cut through Fed Chair Jerome Powell's speech at Jackson Hole on the 23rd. The market expects that after hearing Powell's speech, the Fed may implement at least one 'big cut' (a 0.5 percentage point interest rate cut) in one or more of the remaining three FOMC meetings this year in September, November, and December. Currently, the federal funds futures market reflects a 65.9% probability that the Fed will make two baby steps (0.25 percentage point rate cuts) and one big step (0.5 percentage point rate cut) within this year.
The so-called 'Harris honeymoon' is also contributing to the weak dollar trend. Ahead of the US presidential election in November, the rising approval ratings of Democratic presidential candidate Vice President Kamala Harris are leading to the abandonment of the 'Trump trade,' which had favored a strong dollar.
Accordingly, Wall Street hedge funds are showing movements of dollar carry trades, selling the US dollar expected to decline in interest rates and investing in high-yield assets in emerging markets. Since the Bank of Japan (BOJ) raised interest rates last month, investors have been unwinding 'yen carry trades' and moving to dollar carry trades, according to analysis.
Christian Kashikoff, Global Head of Foreign Exchange Investment Solutions at Citigroup, diagnosed, "Sentiment toward the US dollar has shifted much more bearish," adding, "Investors' risk appetite has been ignited by expectations of interest rate cuts." He further explained, "With the expected interest rate differential between the US and Japan, hedge funds employing carry trade strategies are choosing the dollar over the yen as their funding currency," and "Since early this month, hedge funds have been using dollars to buy emerging market currencies including the Brazilian real and Turkish lira."
The market expects the weak dollar trend to continue as the Fed is anticipated to begin monetary easing with its first rate cut next month.
Atanasios Bambakidis, Head of G10 FX Strategy at Bank of America (BoA), forecasted, "The US currency is still overvalued," and added, "The market is expecting a soft landing and Fed rate cuts, which will negatively impact the dollar's value."
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