Key Questions: Will the Dominance of the US Dollar Ever Be Challenged?

George Mateyo, Chief Investment Officer, KeyBank Investment Center

<p>Key Questions: Will the Dominance of the US Dollar Ever Be Challenged?</p>

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We have learned that forecasting currency markets is tricky, but we still think it is wise not to bet against the US dollar in the long run.

During my final year of graduate school, I was enrolled in a class called International Trade and Finance. The class was divided into two parts.

The first part consisted of a simulation in which we as students were asked to envision ourselves as a corporate finance professional responsible for managing a large portfolio of trade receivables (i.e., purchase orders) for a multinational corporation. The goal was to hedge any exposure to foreign currency fluctuations from one period to another. In short, our objective was not to lose any money for our fictitious company/employer.

The second component of the class entailed another simulation: We assumed the role of a risk-seeking speculative currency trader. Our goal was to make as much money as possible within a hypothetical trading account.

In the first section of the class, I recall doing relatively well. I understood some basic relationships between the exposures that I wanted to hedge and mostly did so with mechanical-like precision.

In the second portion of the class, our profits and losses were tallied each week and the imaginary value of every student’s trading account was revealed in front of the class. Admittedly, my success as a currency speculator was volatile.

Lesson Learned: Currency Markets Are Unpredictable.

At the end of the class, I was happy to earn a satisfactory grade. But the bigger lesson that I learned was how unpredictable currency markets can be, particularly in the short run. Moreover, 20-plus years later, I now believe that currency markets represent an expression of sentiment. Fundamentals may win out in the long run (just as earnings, cash flows, and other variables influence stock and bond prices), but currencies seem more susceptible to emotional swings (although stocks and bonds are swayed by emotions many times, too).

With this backdrop, when asked about our views on the US dollar, I am usually hesitant to give a precise forecast. In fact, I believe that point forecasts for most economic and market indicators often convey a false sense of specificity. Instead, I think a range of outcomes or a statement that incorporates probabilities of a certain event are more useful frameworks when making decisions.

The US dollar has risen more than 10% this year, prompting some concern over a “dollar doom loop,” a term coined to describe how a strong dollar can act as a self-reinforcing, pro-cyclical force that depresses global growth as the strength of the dollar rises. Curiously, at this time last year, however, I remember people being concerned about the weakness in the US dollar, which had lost roughly 15% of its value between March 2020 (the lowest point of the COVID crash) and early June 2021.

What Does It All Mean?

So why is the US dollar so strong, what does it mean for investors, and will its dominance ever be challenged again?

Today, the strong US dollar can be explained by three components: 

  1. Its “safe haven” status (the view that US dollars will fare better in a global slowdown).
  2. Interest rate differentials (US interest rates are higher than interest rates in other countries).
  3. Growth differentials (the belief that the US economy will fare better than other economies, especially Europe’s, which faces considerable adversity because of the war in Ukraine and the resultant energy/ commodities crisis).1


Unfortunately, a strong dollar can be a headwind for US companies as it makes exporters’ products less competitive abroad. It also hurts multinationals as they need to convert their foreign profits back into the US currency. And while some investors may view major market benchmarks as largely domestic indexes, roughly one-third of the aggregated sales of companies within the S&P 500 Index are derived from overseas markets.

Stated more clearly: A strong US dollar combined with higher inflation (both materials and labor, rising interest rate costs, and slowing demand) is another source of pressure on corporate earnings.

US Dollar Enjoys Structural Benefits

As to whether the dominance of the US dollar will ever be challenged, we still believe that the US economy (and by extension the US dollar) enjoys many structural benefits, ranging from our entrepreneurial spirit to our servicesdriven economy, to our relative self-sufficiency. For these reasons, we would be reluctant to bet against the dollar.

At the same time, however, relative to other economies, the US budget and trade deficits continue to swell, which may eventually pose real challenges to the country’s growth prospects. Moreover, as China’s economy continues to reopen following a rigid zero-COVID policy, its economic growth could reaccelerate.

But once the US dollar peaks, it typically results in higher stock prices as some of the headwinds to corporate profits subside, although timing such turns are difficult to pursue.

Key Takeaways

Because we believe that currency swings are driven mostly by emotion, we prefer to focus on long-term fundamentals. This means that we intentionally maintain a modest home country bias within our clients’ portfolios, choosing to allocate between 65–70% of our equity portfolios to US markets, and 30–35% to non-US markets. That is compared to commonly used benchmarks, which are split roughly 50/50. 

We also adopt an equity bias overall, for, despite shortterm gyrations appearing poised to continue, investors’ willingness to maintain their risk posture has historically been rewarded over the long run and across various currency regimes.

For more information, please contact your advisor.

George Mateyo Biopic

About George Mateyo

As Chief Investment Officer, George Mateyo is responsible for establishing sound investment strategies for private and institutional clients, expanding internal and external research capabilities, and managing the delivery of solid risk-adjusted investment performance.

In previous roles, George spent more than 15 years in investment management and investment consulting, where he acquired firsthand knowledge and insights into the capital markets and the stewardship of investment portfolios for institutional and high net-worth investors.

George received his MBA from the Weatherhead School of Management at Case Western Reserve University and completed additional studies at the London School of Economics.

Publish Date: July 26, 2022

The Key Wealth Institute is comprised of a collection of financial professionals representing Key entities including Key Private Bank, KeyBank Institutional Advisors, and Key Investment Services.

Any opinions, projections, or recommendations contained herein are subject to change without notice and are not intended as individual investment advice.

This material is presented for informational purposes only and should not be construed as individual tax or financial advice.

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