De-dollarization and the Recent Rebound of the U.S. Dollar

The concept of "de-dollarization" has been making waves in financial markets in 2023, but that hasn't stopped the U.S. currency from experiencing a significant bounce in August.

The key question now is whether this momentum can be sustained.

According to FactSet data, the ICE U.S. Dollar Index DXY, which measures the currency against six major rivals such as the euro and Japanese yen, hit a 15-month low in mid-July before bouncing back by approximately 4%. It is now on track for a rise of around 1.6% in August. As a result, the index has turned positive for the year, with a year-to-date gain of 0.4%.

So, what caused this turnaround? The credit goes to a string of robust economic data from the United States, which showcased the country's strength compared to its global counterparts.

According to strategists Kit Juckes and Olivier Korber from Société Générale, recent foreign exchange (FX) returns have been greatly influenced by the evolution of GDP growth expectations for 2024. They predict that this trend will continue to have an impact going forward.

In a note released on Thursday, Juckes and Korber explained, "The U.S. was the only G-10 economy to see upward revisions to growth forecasts, and that helped the dollar outperform the rest of the G-10 currencies this month." The term "G-10" refers to the ten most actively traded and liquid currencies in the world.

The analysts called attention to a chart displaying changes in relative GDP forecasts since the end of May. They noted that it's the shift since the end of July that is particularly noteworthy, as U.S. forecasts have risen in comparison to all other currencies.

While this upward revision contributed to the dollar's rise, Juckes and Korber raised concerns about whether the increased growth forecasts for the U.S. might be overly optimistic.

Overall, the recent uptick in the U.S. dollar highlights the ongoing debate surrounding de-dollarization and its potential implications for global markets.

Dollar's Rise Loses Momentum as Treasury Yields Pull Back

Time will tell whether resilient U.S. economic data continues to surprise. Meanwhile, one of Wall Street’s most closely followed technical analysts wasn’t terribly impressed with the dollar’s August rise, which lost some momentum as Treasury yields pulled back.

Dollar's Resistance

Jeff deGraaf, chairman and head of technical research at Renaissance Macro, mentioned in a note last Thursday that "The contraction in yields has taken some steam out of the dollar, which has now failed at resistance."

The dollar’s gains came as strong economic data fueled a rise in U.S. Treasury yields, as investors bumped up expectations for further interest rate rises by the Federal Reserve.

Treasury Yields Fluctuating

The 10-year Treasury yield earlier this month traded near a 16-year high above 4.30% before pulling back. Currencies tend to be most sensitive to short-term rates — and the differentials between those rates between countries. The 2-year U.S. Treasury yield edged back above 5% last week before falling back.

Outlook for the Dollar

DeGraaf remains cautious on the dollar trend, stating that "the latest rally did not push us into overbought levels, the risk/reward for FX traders looks to be for a weaker dollar."

Impact on Stocks

Stocks suffered in August as Treasury yields jumped. However, major indexes were on track to end the month with a five-day winning streak as yields retreated. The S&P 500 was still on track for its first monthly loss since February, but has pared its decline to around 1.3%. The Dow Jones Industrial Average was off 1.6% for August, with the Nasdaq Composite declining 0.8%.