Goldman Holds Fast to Strong Dollar Call on Outlook for Fed

New York (Mar 21)  Goldman Sachs Group Inc., one of the world’s top 10 foreign-exchange traders, is holding fast to its bullish-dollar stance, unmoved by the currency’s recent slide. Gains in the greenback against its higher-yielding peers on Monday showed at least some investors agree.

An index of the U.S. currency has dropped 3.5 percent this month, on track for its worst performance since April 2011, as a cautious approach to policy by the Federal Reserve prompted Macquarie Bank Ltd. and Morgan Stanley to highlight the risk of more dollar weakness. While the Fed signaled two interest-rate increases this year, economists at Goldman predict stronger economic outcomes will force policy makers into three.

The Almighty Dollar

“The underlying case for the divergence trade is stronger, not weaker, given that a dovish Fed will spur U.S. outperformance versus the euro zone and Japan,” wrote Goldman analysts led by Robin Brooks, the New York-based head of currency strategy. “Going up is hard to do, but the dollar will go up.”

The dollar rose against 20 of 31 major currencies on Monday, and was little changed at $1.1281 per euro and 111.43 yen as of 7 a.m. in New York, up from 110.67 on March 17, its lowest since October 2014. The Bloomberg Dollar Spot Index was little changed, after climbing as much as 0.3 percent earlier.

South Africa’s rand led declines among the dollar’s major peers Monday, followed by the pound.

Japanese markets were closed Monday for a public holiday.

‘Appreciation Pressure’

The “underlying appreciation pressure is large” for the dollar, the Goldman analysts wrote. Their forecasts for Fed tightening would suggest a 15 percent appreciation in the U.S. currency, they said.

The market’s expectations for the Fed are more subdued. Traders put the chances of a rate increase in June at 39 percent, according to futures data compiled by Bloomberg. The odds of a single 25-basis-point move by December are at 68 percent. The calculation assumes the effective fed funds rate will average 0.625 percent after the Fed’s next increase.

Policy makers last week lowered their median rate projection to two increases by year-end, from four in December, citing the potential impact of weaker global growth and financial-market turmoil on the U.S. economy.

Speculators’ Bets

Hedge funds and other large speculators reduced bets on dollar gains versus eight major currencies to the lowest since August 2014 in the week to March 15. The so-called net longs dropped to 88,214 contracts, according to the Commodity Futures Trading Commission in Washington.

Standard Bank Group Ltd. predicts that the setback in the U.S. currency’s long-term advance will be temporary. The Bloomberg dollar index is still up about 18 percent since mid-2014. The bank sees the greenback rising for about another year, and strengthening to $1.10 per euro, 115 yen and $1.38 per pound in the next six months.

“The greenback has not become significantly overvalued against other advanced-country currencies,” said Steve Barrow, head of Group-of-10 strategy at Standard Bank in London. “What’s more, we’re still in the early stages of the Fed’s tightening cycle.”

Source: Bloomberg