Federal Reserve, geopolitics threatens US Dollar's seasonal year-end slump

“Real rate spreads are, relative to the last five years, favoring the dollar a lot more this time around so you already have the page set for dollar bears to be somewhat weaker in the knees,” said Vishnu Varathan, head of economics and strategy at Mizuho Bank Ltd. in Singapore. “Clearly the elephant in the room is we’ve got unprecedented policy tightening that’s come through,” and then “you’ve got geopolitics thrown into the mix.”

Strong US economic data has persisted in recent months and the Fed continues to debate the possibility of hiking rates again this year, a move that would likely benefit the greenback. The market is pricing in just about a 20% chance of a hike by year-end, but the 10-year Treasury yield is not far from the psychological 5% level after reaching its highest since 2007 last week.

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The dollar has benefited from the underlying economic trend and surge in yields, confounding a slew of bets against the currency at the start of the year. The Bloomberg gauge has climbed over 2% in 2023, while the Asian dollar index has slumped almost 5%.

Some strategists see Asia’s currencies getting a boost should China’s recovery finally gain traction. Beijing announced a 1 trillion yuan ($137 billion) boost in economic aid this week. The currencies are also heavily dependent on the path of US yields, against which the potential returns on regional assets are often compared.

“We’ve generally seen a broad trend of weakness across Asia,” said Mitul Kotecha, head of FX and EM Macro Strategy, Asia at Barclays. “But I think going into the end of the year, things may look a little bit better in some senses because we’ve had some pullback in US yields, we’ve had the dollar looking like it’s facing a little bit more resistance and data in China has shown some improvement.”

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For Mizuho’s Varathan, with so many external factors weighing on the dollar, it’s hard to judge whether history will be a guide this year.

“Going into the year-end, one must be careful about the degree to which you bet against the dollar,” he said. “We should be prepared for a very unseasonable year.”