Dollar floored as investors seek that extra hedge

ALL three major US asset classes – stocks, bonds and the currency – have had a turbulent 2025 thus far, but only one has failed to weather the storm: the dollar.
Hedging may be a major reason why Wall Street's three main indices and the ICE BofA US Treasury index are all slightly higher for the year to date, despite the post-'Liberation Day' volatility, while the dollar has steadily ground lower, losing around 10% of its value against a basket of major currencies and breaking long-standing correlations along the way.
The dollar was perhaps primed for a fall.
It's easy to forget, but only a few months ago the 'US exceptionalism' narrative was alive and well, and the dollar scaling heights rarely seen in the past two decades.
But that narrative has evaporated, as US President Donald Trump's controversial economic policies and isolationist posture on the global stage have made investors reconsider their exposure to US assets.
But why is the dollar feeling the burn more than stocks or bonds?
Pension fund-amentals
Non-US investors often protect themselves against sharp currency fluctuations via the forward, futures or options markets.
The difference now is that the risk premium being built into US assets is pushing them – especially equity holders – to hedge their dollar exposure more than they have in the past.
Foreign investors have long hedged their bond exposure, with dollar hedge ratios traditionally around 70% to 100%, according to Morgan Stanley, as currency moves can easily wipe out modest bond returns.
But non-US equity investors have been much more loath to pay for protection, with dollar hedge ratios averaging between 10% and 30%.
This is partly because the dollar was traditionally seen as a 'natural' hedge against stock market exposure, as it would typically rise in 'risk off' periods when stocks fell.
The dollar would also normally appreciate when the United States economy and markets were thriving – the so-called 'Dollar Smile' – giving an additional boost to US equity returns in good times.
A good barometer of global 'real money' investors' view on the dollar is how willing foreign pension and insurance funds are to hedge their dollar-denominated assets.
Recent data on Danish funds' currency hedging is revealing.
Danish funds' US asset hedge ratio surged to around 75% from around 65% between February and April.
According to Deutsche Bank analysts, that 10 percentage point rise is the largest two-month increase in over a decade.
Anecdotal evidence suggests similar shifts are taking place across Scandinavia, the eurozone and Canada, regions where dollar exposure is also high.
The US$266bil Ontario Teachers' Pension Plan reported a US$6.9bil foreign currency gain last year, mainly due to the stronger dollar.
Unless the fund has increased its hedging ratio this year, it will be sitting on huge foreign currency losses.
'Investors had embraced US exceptionalism and were overweight US assets. But now, investors are increasing their hedging,' says Sophia Drossos, economist and strategist at the hedge fund Point72.
And there is a lot of dollar exposure to hedge.
At the end of March foreign investors held US$33 trillion of US securities, with US$18.4 trillion in equities and US$14.6 trillion in debt instruments.
Riding out the storm
The dollar's malaise has upended its traditional relationships with stocks and bonds.
Its generally negative correlation with stocks has reversed, as has the usually positive correlation with bonds.
The divergence with Treasuries has gained more attention, with the dollar diving as yields have risen.
But as Deutsche Bank's George Saravelos notes, the correlation breakdown with stocks is 'very unusual'.
When Wall Street has fallen this year the dollar has fallen too, but at a much faster pace.
And when Wall Street has risen the dollar has also bounced, but only slightly.
This has led to the strongest positive correlation between the dollar and S&P 500 in years, though that's a bit deceptive, as the dollar is sharply down on the year while stocks are mildly stronger.
Of course, what we could be seeing is simply a rebalancing.
Saravelos estimates that global fixed income and equity managers' dollar exposure was at near record-high levels in the run-up to the recent trade war.
This was a 'cyclical' phenomenon over the last couple of years rather than a deep-rooted structural one based on fundamentals, meaning it could be reversed relatively quickly.
But, regardless, the dollar's hedging headwind seems likely to persist.
'Given the size of foreign holdings of both stocks and bonds, even a modest uptick in hedge ratios could prove a considerable foreign exchange flow,' Morgan Stanley's foreign exchange strategy team wrote last month.
'As long as uncertainty and volatility persist, we think that hedge ratios are likely to rise as investors ride out the storm.' — Reuters
Jamie McGeever is a columnist for Reuters. The views expressed here are the writer's own.

Try Our AI Features

Explore what Daily8 AI can do for you:

Learn with AIFact CheckingText to SpeechAI Summary

Related Articles

Malay Mail

an hour ago

• Malay Mail

Investors brace for oil price spike, rush to havens after US bombs Iran nuclear sites

NEW YORK, June 22 — A US attack on Iranian nuclear sites yesterday could lead to a knee-jerk reaction in global markets when they reopen, sending oil prices higher and triggering a rush to safety, investors said, as they assessed how the latest escalation of tensions would ripple through the global economy. The attack, which was announced by President Donald Trump on social media site Truth Social, deepens US involvement in the Middle East conflict. That was the question going into the weekend, when investors were mulling a host of different market scenarios. In the immediate aftermath of the announcement, they expected the US involvement was likely to cause a selloff in equities and a possible bid for the dollar and other safe-haven assets when trading begins, but also said much uncertainty about the course of the conflict remained. While Trump called the attack 'successful', few details were known. He was expected to address the nation later on Saturday. 'I think the markets are going to be initially alarmed, and I think oil will open higher,' said Mark Spindel, chief investment officer at Potomac River Capital. 'We don't have any damage assessment and that will take some time. Even though he has described this as 'done', we're engaged. What comes next?' Spindel said. 'I think the uncertainty is going to blanket the markets, as now Americans everywhere are going to be exposed. It's going to raise uncertainty and volatility, particularly in oil,' he added. Spindel, however, said there was time to digest the news before markets open and said he was making arrangements to talk to other market participants. Oil prices, inflation A key concern for markets would centre around the potential impact of the developments in the Middle East on oil prices and thus on inflation. A rise in inflation could dampen consumer confidence and lessen the chance of near-term interest rate cuts. 'This adds a complicated new layer of risk that we'll have to consider and pay attention to,' said Jack Ablin, chief investment officer of Cresset Capital. 'This is definitely going to have an impact on energy prices and potentially on inflation as well.' While global benchmark Brent crude futures LCOc1 have risen as much as 18 per cent since June 10, hitting a near five-month high of US$79.04 on Thursday, the S&P 500 .SPX has been little changed, following an initial drop when Israel launched its attacks on Iran on June 13. Before the US attack yesterday, analysts at Oxford Economics modelled three scenarios, including a de-escalation of the conflict, a complete shutdown in Iranian oil production and a closure of the Strait of Hormuz, 'each with increasingly large impacts on global oil prices.' In the most severe case, global oil prices jump to around US$130 per barrel, driving US inflation near 6 per cent by the end of this year, Oxford said in the note. 'Although the price shock inevitably dampens consumer spending because of the hit to real incomes, the scale of the rise in inflation and concerns about the potential for second-round inflation effects likely ruin any chance of rate cuts in the US this year,' Oxford said in the note, which was published before the US strikes. In comments after the announcement yesterday, Jamie Cox, managing partner at Harris Financial Group, agreed oil prices would likely spike on the initial news. But Cox said he expected prices to likely level in a few days as the attacks could lead Iran to seek a peace deal with Israel and the United States. 'With this demonstration of force and total annihilation of its nuclear capabilities, they've lost all of their leverage and will likely hit the escape button to a peace deal,' Cox said. Economists warn that a dramatic rise in oil prices could damage a global economy already strained by Trump's tariffs. Still, any pullback in equities might be fleeting, history suggests. During past prominent instances of Middle East tensions coming to a boil, including the 2003 Iraq invasion and the 2019 attacks on Saudi oil facilities, stocks initially languished but soon recovered to trade higher in the months ahead. On average, the S&P 500 slipped 0.3 per cent in the three weeks following the start of conflict, but was 2.3 per cent higher on average two months following the conflict, according to data from Wedbush Securities and CapIQ Pro. Dollar woes An escalation in the conflict could have mixed implications for the US dollar, which has tumbled this year amid worries over diminished US exceptionalism. In the event of US direct engagement in the Iran-Israel war, the dollar could initially benefit from a safety bid, analysts said. 'Do we see a flight to safety? That would signal yields going lower and the dollar getting stronger,' said Steve Sosnick, chief market strategist at IBKR in Greenwich, Connecticut. 'It's hard to imagine stocks not reacting negatively and the question is how much. It will depend on Iranian reaction and whether oil prices spike.' — Reuters

New Straits Times

2 hours ago

• New Straits Times

MONEY THOUGHTS: A practical blueprint for modest wealth

This is our current reality: United States President Donald Trump's asinine trade tariff tantrum will make life tougher for both Americans and the rest of the world, because the economic friction introduced by his tariffs will lower Earth's potential aggregate economic growth. The reduction will make life less palatable for most of Earth's 8.2 billion people. Thankfully, there are ways for regular people to restructure their finances to benefit from the economic and capital market volatility stemming from bad policies gushing out from the once-respected White House like a high-pressure stream of raw sewage. In April, Forbes magazine released its 39th annual World's Billionaires list. It unearthed a record number of 3,028 billionaires with an aggregate net worth of US$16.1 trillion. The mean net worth of those 3,000-plus super-wealthy men and women this year: US$5.3 billion. The world's first billionaire was oilman John Davison Rockefeller — later referred to as John D. Rockefeller Sr when his son John D. Rockefeller Jr was born. JDR Sr became a billionaire in 1916 at the age of 77. To their credit, he and his progeny nurtured a culture of philanthropy that benefitted millions over many decades. JDR Sr died in 1937 at the age of 97 years and 10 months. Five years before his demise, in writer John Thomas Flynn's book God's Gold: The Story of Rockefeller and His Times, JDR Sr is quoted saying: "I believe the power to make money is a gift from God — just as the instincts for art, music, literature, the doctor's talent, the nurse's, yours — to be developed and used to the best of our ability for the good of mankind. "Having been endowed with the gift I possess, I believe it is my duty to make money and still more money; and to use the money I make for the good of my fellow man according to the dictates of my conscience." I find that almost century-old statement of mission and intent (from 1932) inspiring. LESSONS AND PRINCIPLES I recognise it is unlikely any of Earth's current crop of 3,028 billionaires will read this Money Thoughts column, including the 19 of them who are Malaysians with average net worths of about US$3 billion or RM12.7 billion. I probably don't have anything of value to share with those super-elite individuals who account for 0.000037 per cent of all living humans. However — and this I know from decades of client interactions — when it comes to attaining modest levels of wealth, say in the much lower RM100,000 to RM10 million range, I do have viable lessons and principles to share with many people. Toward that end, there is a multi-part blueprint which I'm happy to share with ambitious readers. Note: Meaningful levels of domestic, regional, and global philanthropy can be achieved by the many millions of people worldwide who are capable of building wealth levels in the range of RM100,000 to RM10 million. So, to help such individuals, I've been laying the foundation of this blueprint over several weeks. Here it is: 1. Recognise the value of two distinct processes; 2. Embrace high market volatility as a long-term aid to wealth-building; 3. Harness a logical long-term investment strategy; and 4. Use a readily available banking facility to put your plan on autopilot. Allow me to elaborate: 1. The Two Processes The six-step financial planning process and a logical three-part wealth-building process can be of use to almost all adults of sound mind. Read that recent Money Thoughts column for a rundown of both processes. Do take note of the second process, which comprises one principle, one strategy and one system. Each of which will be sequentially covered below to provide you — hopefully — with a robust framework to build future wealth for your family, most likely within the target range of RM100,000 to RM10 million. 2. Volatility's hidden value In both business and investing, the most straightforward way to make money is to buy low, and sell high. It is a powerful principle. When we understand this unchanging economic truth, we can begin looking upon asset price volatility as a beneficial wealth-building mechanism. Elaboration: 3. Understand dollar-cost averaging Unfortunately, a mere cerebral acceptance of the validity of buying low and selling high is useless unless we can also implement a disciplined strategy to do so consistently. The dollar-cost averaging (DCA) fits the bill. Perfectly. 4. Rely on standing instructions Finally, even after we reach the point of understanding that it is economically beneficial to implement a personal DCA strategy when aiming to build lifelong wealth, we still need a pragmatic system to automatically and emotionlessly implement that strategy. The system I recommend hinges on bank Standing Instructions that regularly shunt cash out of our bank account into, ideally, a diversified savings and investment portfolio for decades on end. Digesting all the material in today's column requires time and attention. I know most readers won't embark on the full journey, but the minority that does will prosper; and in all likelihood, bigtime. © 2025 Rajen Devadason

Free Malaysia Today

8 hours ago

• Free Malaysia Today

Tengku Zafrul sees Google's investment driving Malaysia's AI economy

Tengku Zafrul Aziz, who is on a working visit to the US, says he met Google representatives in Washington. PETALING JAYA : Google's investment in Malaysia is expected to continue driving the country's artificial intelligence (AI) and cloud computing economy, according to investment, trade and industry minister Tengku Zafrul Aziz. He said Google's RM9.4 billion investment to set up its first data centre and Google Cloud region in Malaysia could generate up to RM15 billion in long-term economic impact and create 26,500 jobs by 2030. Tengku Zafrul, who is currently on a working visit to the US said he met Google representatives to discuss how the company can continue to drive AI development in Malaysia, strengthen cybersecurity and invest in digital skills. 'The government is committed to providing full support and ensuring a conducive investment climate for high-quality investments,' he said in a Facebook post. Last week, Microsoft reaffirmed its commitment to a RM10.5 billion investment in cloud and AI infrastructure in Malaysia, including the development of hyperscale data centres in the Klang Valley. The announcement came in the wake of a 24% tariff on Malaysian goods announced by the US in April, before a 90-day pause was declared a week later.