Last week’s note from JPM argued that the dollar could continue to rise, but that it is stretched and that further growth is likely to be limited. It’s a conundrum, we’re waiting for the straw to hit the camel’s back to break this trend.

A summary of the notes below, with various influencing factors, I’m sure you’ll be familiar with. Nice comparison though. I’ve bolded some things that caught my eye.

1. Differences in global growth and central bank policies

• The widening gap in global growth has led to significant differences in monetary policy.
• TThe spread in US 10-year bond yields with key trading partners has hit its highest level since 1994.

2. The strength of the US dollar

• Despite two Federal Reserve rate cuts in 2024, the US dollar appreciated by 7%.
• The US real broad effective exchange rate (REER) remains near historic highs, indicating sustained strength.

3. Reasons for the strength of the dollar

• Differences in economic growth: The US economy grew 2.7% in 2024, outpacing the 1.7% growth in other developed markets, supported by strong productivity, business investment and a more stable labor market.
• Monetary Policy Divergence: Limited Fed rate cuts come at a price (44bps for 2025), compared to a larger cut by the ECB (110bps) and a rate hike in Japan (47bps), maintaining the yield gap.
• Policy changes: Support for domestic manufacturing, tariffs and deregulation by the new administration could further boost business growth and the dollar.

4. Long-term restrictions on the dollar

• The dollar is historically overvalued (two standard deviations above its 50-year average), indicating limited room for further appreciation.
• Structural issues like the US trade deficit (4.2% of GDP in September 2024) could eventually weigh on the dollar.

5. Impacts of a strong dollar

• Challenges for US-based investors: Reduced performance of international companies and higher costs for US exports.
• Negative impact on US companies with significant international exposure.
• A strong dollar supports the ‘American exceptionalism’ narrative, but requires investors to carefully assess portfolio risks.

While dollar strength may persist in the short term, historical patterns and structural factors point to potential downward pressure in the longer term.