"Difficult for Dollar to Weaken Trendwise for Now... Expecting Benefits for US Small-Cap Stocks"

As expectations for additional interest rate cuts by the U.S. Federal Reserve (Fed) weaken and global liquidity indicators slow down, it is difficult to expect a sustained weakening of the dollar in the near term, according to an analysis. The diagnosis suggests that a strategy focusing on the U.S. is necessary until global liquidity and trade improvements fully materialize. Within the U.S. stock market, small-cap stocks were identified as beneficiaries rather than large-cap stocks.

On the 14th, Seungbin Cho, a researcher at Daishin Securities, presented a "Increase equity allocation, neutral on bonds" strategy in the monthly report titled "Asset Allocation Phase Assessment: Slowing Global Liquidity Indicators Hinder Dollar Weakness Transition."

First, Cho noted, "Since the improvement in the OECD major 20 countries (G20) leading economic indicators continues, we maintain a risk asset preference strategy," adding, "Within equities, we prefer U.S.-centered developed market stocks because the slowdown in global liquidity indicators has increased the likelihood of a delayed dollar weakness."

In this report, Cho focused on the fact that the M2 money supply relative to GDP in major countries has slowed for three consecutive months and has fallen below the trend line from a global liquidity perspective. He stated, "The slowdown in global liquidity indicators lowers the possibility of a sustained dollar weakness," and "Until a sustained dollar weakness transition occurs, it is difficult to expect a resilient upward trend in asset markets outside the U.S."

Cho explained, "In the past, when the M2 growth rate of major countries slowed, the dollar showed strength. However, after bottoming out in October 2022, the M2 growth rate in major countries, which had been improving, has slowed for three consecutive months." He evaluated that this is particularly linked to the current situation where concerns about inflation rebounding have weakened expectations for further Fed rate cuts, limiting the dollar's weakening trend. He judged, "The environment does not support expecting a sustained dollar weakness for the time being."

Along with this, Cho emphasized the importance of monitoring trade flows, stating, "In the medium to long term, dollar weakness depends on whether global trade improves." He also suggested, "Since the dollar may strengthen until improvements in global liquidity and trade flows appear, an investment strategy focusing on the U.S. stock market is necessary."

Specifically, he pointed out that during past improvements in the ISM manufacturing index, the Russell 2000 index outperformed the large-cap-focused S&P 500 index, explaining that he prefers small-cap stocks over large-cap stocks within the U.S. stock market. Regarding bonds, he preferred corporate bonds over government bonds due to favorable economic conditions. He added, "Since the investment-grade corporate bond spread compared to bonds has narrowed to the previous low level, a short-term focused response strategy is necessary."