Will the US dollar continue to decline? The market's re-pricing of interest rate paths is changing everything.

The Continued Weakness of the US Dollar Index

Since the Federal Reserve’s December decision, the US Dollar Index has been in a persistent decline. Recently, the index fell to 98.313, hitting a recent low, with a total depreciation of over 9% this year. The logic behind this trend is not complicated: market expectations for the global monetary policy outlook are being readjusted.

As the Fed signals easing, non-US currencies such as the euro, pound, and Swiss franc have risen accordingly. However, the key factor still determining the dollar’s movement is domestic US economic data. If upcoming employment reports and inflation indicators exceed expectations, the dollar may have a chance to rebound. This is precisely where market anxiety lies—no one can be sure whether the weakness is a short-term correction or a long-term trend.

Trading Opportunities from Monetary Policy Divergence

Fed Chair Powell conveyed subtle signals during the press conference. He hinted that the January meeting might pause rate cuts, while emphasizing, “We have cut rates by 175 basis points and are in the neutral rate range.” These remarks should support the dollar, but the market did not buy it.

The fundamental divergence lies in expectations. The Fed’s dot plot shows only one rate cut in 2025, but traders are betting on two cuts. This 50 bps expectation gap directly translates into dollar selling. Meanwhile, the hawkish turn by the Reserve Bank of Australia, Bank of Canada, and European Central Bank further highlights the Fed’s relatively dovish stance, leading investors to continue reducing dollar holdings.

The Fed also announced it would purchase $40 billion in short-term government bonds to inject liquidity, further weakening the dollar’s safe-haven appeal. These policies, combined, are shaping a market expectation of “Will the dollar fall again?”

Major Changes in Global Asset Allocation

The dollar’s weakness is driving large-scale capital reallocation:

Tech Stocks are the biggest winners. US tech stocks have gained over 20% this year. For every 1% depreciation of the dollar, overseas earnings of tech-listed companies increase by 5 basis points, which is especially beneficial for multinational corporations. Goldman Sachs’ analysis indicates that a weak dollar directly enhances export competitiveness and reduces corporate borrowing costs.

Gold has also shown an independent rally. It has surged 47% year-to-date, breaking the historical high of $4,200 per ounce. Central banks have purchased over 1,000 tons (led by China and India), and ETF funds continue to flow in net. In a weakening dollar environment, gold’s appeal as an inflation hedge has significantly increased.

Emerging markets are the biggest beneficiaries. The MSCI Emerging Markets Index has risen 23% this year, with South Korea and South Africa stocks gaining from strong corporate earnings and the falling dollar. Goldman Sachs research shows that dollar weakness directly stimulates capital inflows into emerging market bonds and equities, with currencies like Brazil leading the gains.

However, this story also has its shadows. The dollar’s weakness has pushed up commodity prices, with oil rising 10%, which heightens inflation expectations. If US stocks overheat, leading to increased volatility in high-beta assets, risk assets could face correction pressures.

December Data Will Decide the Dollar’s Fate

In the coming week, US CPI (expected to be released on the 18th) and employment reports will be market focal points. If the data is strong, internal Fed divergence (with three officials already opposing rate cuts at this meeting) could turn hawkish, pushing the dollar index back toward the 100 level.

A Reuters poll shows that 73% of analysts expect the dollar to weaken further by year-end, but this consensus is not solid. Jefferies economists note that the probability of a rate cut at the December meeting is close to 50/50, with employment data being a key variable. The market may be overreacting to labor market signals.

On the other hand, the US fiscal deficit expansion and government financing concerns could temporarily support the dollar’s safe-haven demand, providing technical support for an upward move.

Investor Strategies

In this environment full of uncertainties, diversification becomes essential. It is recommended to increase allocations in non-US currencies and gold to hedge against dollar depreciation risks. At the same time, avoid excessive leverage exposure, as volatility may be more intense than expected.

In the short term, the probability of dollar weakness is higher, but the long-term trend depends on the depth of US economic slowdown. This is both a test of traders’ judgment and an opportunity to reassess global asset allocations.