The bull market in the US dollar – something that began in the June quarter of 2011 – is likely to last for an additional two years and see the currency gain by a further 10% in trade weighted terms.
That’s the bullish forecast offered by Alan Ruskin and George Saravelos, macro strategists at Deutsche Bank, who suggest that bull market in the buck still has some way to run yet before it reaches its next cyclical peak.
Here’s why they believe that the bull market in the US dollar is only two-thirds complete at present.
Since the fall of Bretton Woods, big USD down cycles of 9 to 10 years have been followed by big USD upswings of 6 to 7 years. While all cycles are different, the macro backdrop conforms to a view that we are about 2/3rds the way through the big USD up cycle, with the real broad index some 50 months into an upswing.
In the same vein, the real Broad TWI has in past cycles largely retraced any prior cycle losses, and increased by 53% and 33% in the 1978 – 1985 and 1995 – 2002 upswings respectively. In the last downswing the USD real broad TWI fell by 28%. We expect that the USD will at a minimum fully retrace these losses, fitting with further real broad TWI gains in the order of 10%. In magnitude terms we are then also likely to be a little over 2/3rds the way through the USD cycle, with USD gains henceforth likely to come at a slower pace.
Using history as a guide, Riskin and Saravelos suggest that in real terms against a basket of currencies, the US dollar has tended to fully recover prior declines, with rallies traditionally occurring over a shorter period than the weakening cycles they’ve followed. Based on past relationships, it suggests that the bull market in the US dollar will probably run for a further two years, and result in gains of at least 10% based on their analysis.
While the pair forecast further gains in the US dollar to come, as to what will drive it, and what it will outperform against, remains uncertain.
In macro terms, how 2016 shapes up will be heavily influenced by whether the main macro driver is the Fed or China. If Fed tightening is the driver, USD gains are seen as likely to be slow and broad-based, spread fairly evenly between G4 majors, commodity FX and EM FX. If on the other hand, China, particularly China FX policy becomes a source of instability, USD gains will be heavily concentrated in commodity and EM FX, while the G4 majors all outperform.
Though they expect further gains, in their opinion they believe the current upswing in the US dollar is unusual as the majority of the gains occurred prior to the start of the Fed’s tightening cycle that began last week. They suggest the “frontloading” of US dollar gains – occurring well before US interest rates were actually increased – “fits with more modest USD gains to come”.
Despite this view, they still forecast some hefty declines for other major currencies against the USD in the years ahead, particularly commodity currencies and the euro.
Here’s a table that reveals their US forecasts for the year ahead. For those in Australia, they predict the Aussie dollar will fall to just 58 cents by 2017, well below the current median market forecast.
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