The chances of the dollar adding to its nearly 3.5% advance since mid-July depend more on the fate of economic growth in China rather than changes to interest rates from the Federal Reserve, according to macro strategists at Bank of America.
(Bloomberg) — The chances of the dollar adding to its nearly 3.5% advance since mid-July depend more on the fate of economic growth in China rather than changes to interest rates from the Federal Reserve, according to macro strategists at Bank of America.
In a note published Tuesday, Bank of America’s Adarsh Sinha and Janice Xue wrote that they are bullish on the dollar, “but a lot hinges on whether China rolls out meaningful, coordinated stimulus in coming weeks.”
Optimism at the prospect of China’s economic reopening following the pandemic reached peak levels in February. Since then, sentiment on so-called “reflation” in China — or a rebound in economic activity through government stimulus — has been “the dominant driver” of dollar performance, “even more so than Fed policy,” the strategists said.
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Since the greenback is considered a safe haven by most investors, the dollar has historically been negatively correlated to the outlook for growth in China, a key determinant of global risk sentiment and trade. But that outlook has tumbled in recent months as a growing real estate crisis imperils the Chinese rebound from the pandemic.
Bank of America’s own measure of reflation in China — which tracks the performance of Hong Kong-listed mainland Chinese stocks, government bonds, the onshore yuan and other assets — is near a 2022 trough, when pessimism on the impact of those lockdowns reached a peak.
But according to Sinha and Xue, the dollar, while on its best run of weekly gains since May 2022 through last Friday, hasn’t performed as well as expected. Given the extent of the Chinese slowdown, the euro, pound and franc are all outperforming and contributing to an “undershoot” of the greenback. Commodity currencies, meanwhile, closely tied to the Chinese economy, have depreciated largely in line with expectations.
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Should risks to the Chinese economy continue to grow, investors looking to go long on the dollar would be best positioned against the aforementioned European currencies and sterling. “These are potentially the best USD longs if China fails to deliver meaningful stimulus in the coming weeks,” Sinha and Xue said.
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