- Reuters/Gary Hershorn
The US dollar has been on a roll since President-elect Donald Trump’s win in early November.
The greenback rose against most major developed and emerging-market currencies in the aftermath, and the trade-weighted dollar index was hovering near 102.64 on Wednesday – near 14-year highs.
At least part of that appreciation could be attributed to the markets reacting to Trump’s proposed fiscal policy initiatives. And analysts had argued last month that the currency still had some room to roar going forward.
A team at HSBC led by strategist David Bloom echoed the sentiment in a recent note to clients, noting that the team expected dollar strength to continue through the first half of 2017. It argued however, that the “euphoria” would start to fade halfway through the year.
“We believe too much will be priced in to the currency market in terms of a successful reflation trade,” the team wrote. “The USD rally will reverse as belief in Trump-flation turns to realization that the scale of policy overhaul is relatively modest (‘Trump-lite’), and that the results are underwhelming as a consequence (‘Trump-failure’). We expect a retracement from mid-year to the end of the year.”
Interestingly, the team compared today’s US dollar to the Japanese yen in 2012-2013 following the reelection of Prime Minister Shinzo Abe.
After Abe’s election, the yen weakened significantly against the dollar as investors welcomed decisions by the Bank of Japan. Ultimately, however, the results were mixed, and the yen appreciated against the dollar in 2015-2016. (You can see this in the chart below.)
“Japan provided a blue-print for how politics and belief can re-shape a currency’s fortunes,” the HSBC team said. “In particular, it reminds us that the market is willing to give a new political landscape the benefit of the doubt in terms of delivery even when the evidence raises questions about its likely success. The three arrows of Abenomics played out over four years and now it looks like a failure; however, that did not stop the JPY from materially weakening.”
Fast-forward to 2016-2017, and roughly the same thing could happen with the dollar, albeit over a shorter time frame, the HSBC team argues.
Essentially, investors are feeling jazzed about certain Trump policies in the postelection honeymoon phase, and this has given a positive boost to the greenback. But they may grow disappointed if things don’t turn out the way they hoped.
We should note that there are crucial differences between Abenomics and (for lack of a better term) Trumponomics. The former focused more on easing monetary policy and aimed for a weaker currency, while Trump’s fiscal policy proposals have so far provided support for a stronger currency. And so the HSBC team is focusing more on taking a look at broader investor behavior and how that could affect currency markets rather than specific parallels between Japanese and American policy.
“In short this year will be a year of two halves for the USD,” the team concluded. “The first half will be full of euphoria, optimism and hope. The second half should see the USD give back some of its gains as the bureaucracy of office and economic reality kicks in.”