FX Talking: Will the real safe haven please stand up?

In May, we argued that the damage to the dollar was already done and that any de-escalation in trade tensions would offer diminishing support to the greenback. Recent weeks have backed up that view, which remains central to our FX outlook. Equities have rebounded, US Treasuries have stabilised, Trump’s rhetoric on trade has softened (especially with China), but the dollar has continued to test the lows. Even the latest oil rally on the back of geopolitical tensions has returned only limited and intermittent support for the greenback.

Markets appear happy to live with a large US dollar risk premium, which currently reflects several factors: US portfolio outflows, Trump’s de-dollarisation talk, Fed independence risks, and worries about US deficits and growth. The persistent nature of these risks argues against a substantial unwinding of the risk premium anytime soon, but equally, much of the bad news looks priced into the dollar. For this reason, calls for 1.20 in EUR/USD look premature unless paired with expectations for additional substantial pressure on US Treasuries.

We are not forecasting a dollar capitulation, but instead a new normal of structural USD weakness. In such an environment, local stories can take a more central role, for instance, in determining which currencies stand to benefit most if global instability returns – as a return of the USD’s safe-haven appeal looks unlikely. The European Central Bank is championing the idea of a “global euro moment”, which can keep the euro attractive, but equally faces political obstacles. Looking beyond the short term, we think the yen stands out as a winner in the safe-haven race, while a dovish Swiss National Bank should curb Swiss franc gains.

In the rest of the G10, we expect underperformance for sterling and the Canadian dollar, while antipodeans and Scandies remain in a good position. In emerging markets, higher energy prices should turn central banks hawkish and support stronger FX, net of shifts in global trade tensions.