The US dollar has certainly been on the back foot year to date, as can be seen in Figure 1 below, which shows the performance of the dollar against a trade weighted basket of its peers. Last year the Fed came under fire for its communications strategy. Yet the way the dollar has fallen following Ms Yellen’s dovish utterances suggests she is in command. The dollar index suffered its worst performance since 2010 in the 4 months to April, falling 5.6% as the Fed signalled it would likely take a slower approach to raising short-term interest rates as concerns about the global economy grew.
The dollar started its climb in mid-2014, as the Federal Reserve began to unwind its stimulus program and markets became more optimistic that the central bank would raise short-term interest rates for the first time since 2006. The Broad Trade Weighted Dollar index is up nearly 20% since the start of June in 2014 to the end of 2015.

Figure 1: The Broad Trade Weighted US Dollar Index
Source: Bloomberg
As we know the strong dollar actually became a problem for the global economy and financial markets last year, especially against Emerging Markets, so it has been seen as a huge relief that the dollar has been relatively weak so far this year. The case for a strengthening dollar rests primarily on two issues. Firstly, backtracking on rate rises by the Fed is now widely acknowledged by the market and we think pretty much priced into the dollar, limiting the scope in our opinion for lower treasury yields. Secondly, while we can point to structural problems in most countries, we believe that the US is probably the least challenged in the long term.
For the Eurozone, the banking problems and lack of a coherent political structure will become a focus again for markets. Perhaps investors may realise that even Draghi’s “whatever it takes” is not enough to overcome structural problems. If the dollar begins to show renewed signs of life against the yen and euro, then this could be enough to derail the recent strong rally in both commodity and Emerging Markets currencies.
If the dollar strengthens investors are likely to revert back to focussing on the problems that sparked the August and January sell off. Also short term correlations, as seen in the chart below, indicate that the link between the dollar and Global equities is as strong as ever. The weak dollar has helped companies’ earnings during the quarter after large forex impacts had the better of companies last year.

Figure 2: MSCI Index of Global Equities and the Broad Trade Weighted Dollar Index
Source: Bloomberg
This view could easily be wrong about the dollar in the short term, and perhaps a continually dovish Fed will lead to further dollar weakness. However, Janet Yellen does not seem to be leading a united committee. The Fed’s goals have been broadly met, financial conditions are easier than when they raised rates in December and inflation could be heading slightly higher by the summer. Despite the market pricing in one rate rise this year at most, a case can be built for a scenario in which the Fed is a bit more aggressive.
After a pretty tough start to the year for the US dollar, the tide could turn, especially when you consider some of the structural problems affecting other countries. How fast or when the tide will turn remains to be seen. One thing is for sure, many investors have been surprised by the extent of the global market and dollar move thus far. We remain cautious on the dollar and global markets as we progress along this new rate hiking cycle from the Fed.
Written by Louis Jamieson, Global Equities Analyst, Sanlam Private Wealth, International Fund Partner.