Macro Pulse for November 16: The Dollar Smile – Now a Dollar Smirk

• The longest-ever U.S. government shutdown has ended after 43 days. We anticipate a hole in government data for October. On balance, a lack of data may encourage the Fed to focus on its trajectory of gradual easing rather than the timing of individual cuts, supporting the case for a 25bp cut in December.
• NVIDIA’s Q3 report will round out a strong earnings season, which saw nearly 12% earnings growth among S&P 500 companies. While NVIDIA’s earnings are a market bellwether and a proxy for chip demand, the other AI hyperscalers have already reported, showing a strong virtuous cycle between cloud revenues, free cash flow, and upgraded capex intentions.  

Currency moves are notoriously difficult to anticipate, and outside of the U.S. currency pairs tend to move at relatively random intervals. But the U.S. dollar is different. Its long cycles, anchored by its reserve status, have made it a defining force in global markets. After depreciating consistently from 2000 to 2008, the dollar has been on a mostly-upward glidepath – interrupted only briefly by the taper tantrum and COVID – since 2010.

This strong-dollar era has been a material driver of the global investment landscape. For USD-based investors, the strong dollar improved purchasing power and put a ceiling on ex-U.S. returns. For non-USD based investors, the strong dollar supported overweight U.S. allocations, to the detriment of local capital bases in many regions. From both perspectives, the strong dollar encouraged concentration in U.S. assets. 

That’s what makes the dollar’s recent depreciation (10.7% drawdown in H1 2025; relative stability since) so painful for investors: many weren’t prepared. And the question now is: should investors be bracing – and allocating – for a shift to a more bearish dollar regime?

Framing any U.S. dollar conversation

One useful framework for analyzing the dollar is the "dollar smile” (below). Since the U.S. dollar became the global reserve currency in the 1940s, moments of low liquidity (such as a crisis or recession) and moments of U.S. economic growth outperformance resulted in a stronger dollar. When global liquidity and growth are ample, by contrast, the dollar has tended to weaken as other currencies benefit from risk-on positioning.

These patterns are still true in aggregate, but the potency of the U.S. dollar as a global “safe haven” during downturns is shifting – turning the “smile” into a “smirk,” with implications for our U.S. dollar view.

What happened in 2025?

When the dollar weakened against major currencies in 2025, it marked a rare moment in which both cyclical forces (stronger global growth relative to the U.S.) and structural concerns (waning safe-haven demand) worked in the same direction.

Hedging also played a role. After many years of an appreciating dollar, global investors were left largely unhedged when U.S. trade policy prompted market volatility this spring. Rather than adjust their underlying exposure outright (e.g. sell U.S. assets) into a depreciating dollar backdrop, investors managed their exposure via the dollar itself (e.g. sold U.S. dollars).

We wrote about the dollar’s role as a safe-haven asset earlier this year, but it bears repeating our view. Right now, there is no alternative (TINA) to the depth, liquidity, and growth potential of the U.S. capital markets. The dollar’s status as the primary global reserve currency provides an important ballast for the trade-weighted dollar exchange rate – full stop. And despite concerns about the U.S. policy trajectory, large sales of U.S. assets are nowhere to be seen in equity, fixed income, or alternative flows, or in Treasury data.

That being said, dollar demand is waning at the margin, with a few primary causes:

1. Central banks are shifting reserves.

Global central banks are slowly rebalancing their reserves away from dollars (and, to a lesser extent, euros) and toward gold. This gradual shift has been taking place for over a decade but accelerated when the U.S. froze Russia out of SWIFT in 2022, raising central banks’ awareness of risks associated with a dollar-dominated system and incentivizing diversification.

2. Global allocators are rebalancing portfolios.

From our own analysis and our conversations with global investors, we anticipate U.S. assets will continue to play a dominant – even overweight – role in global portfolios. But USD uncertainty adds nuance to the picture:

• In response to higher hedging costs, ex-U.S. investors are less attracted to historically lower-return USD-based asset classes. This has the potential to increase ex-U.S. investor attention to U.S. public equity, global private assets (see next point), and local currency credit.
• In response to U.S. policy uncertainty, we’ve heard hesitation around new illiquid U.S. deployments, particularly for investors with existing overweight positions to U.S. private assets. We’ve seen this hesitation ebb and flow with the U.S. policy backdrop this year.

Even marginal shifts in flows can have an impact on dollar valuations. Any reduction in U.S. asset preference would require selling U.S. assets and exchanging dollars for other currencies, which increases dollar supply and puts pressure on its value.

Our U.S. dollar view for 2026

A preview of our 2026 outlook (to be published in late November): our base case economic view calls for U.S. economic outperformance in H1 2026 (dollar bullish), balanced with global investors’ concerns about U.S. policy stability, high U.S. debt service costs, and high U.S. dollar liquidity (dollar bearish). We also perceive among investors – and share – low conviction about the U.S. dollar view, which may contribute to higher hedging volume in Q1 (dollar bearish).

On balance, we believe these opposing forces result in a rangebound and volatile dollar index (DXY), with levels between 92 and 102. Key upside risks to the dollar are cyclical: U.S. growth could outperform without an uptick in inflation, pulling real rates higher. Key downside risks are political; investors are focused on policy-related risks ahead of the midterm elections, as well as Fed independence.

Portfolio strategy

We’ve exited the era in which the dollar was in a secular uptrend and diversification did not matter.

As we state above, we anticipate U.S. assets will continue to play a dominant – even overweight – role in global portfolios. But a shifting geopolitical backdrop and high U.S. valuations make it likely that rebalancing – and a greater focus on diversification – continue in 2026 and beyond.

In particular, valuation concerns in U.S. public assets favor incremental diversifying additions to ex-U.S. assets for both USD-based and non-USD based investors. For USD-based investors: unless the near-term dollar outlook is a high-conviction call, partially hedging currency risk can improve the risk-adjusted return of an international allocation. Investors of all kinds can also consider the diversifying potential of U.S. value equities and high-quality small cap equities.