(Bloomberg) -- Bets on a weaker dollar are safe if investors are more worried about a slowing US economy than a full-blown banking crisis, according to Standard Chartered Plc.
The recent banking issues aren’t bad enough to spur risk-off trades, which would trigger greenback demand according to the dollar-smile theory, Steve Englander, global head of the Group-of-10 currency research, wrote in a note. Instead, the market is focused on interest-rate differentials, with the Federal Reserve seen as switching to a dovish bias, he said.
“We think the short dollar trade is safe as long as banking-sector issues are simmering but not on full boil,” Englander said. “The simmer mode means that the dominant financial market spillover is likely to be a sluggish economy and low rates.”
The Bloomberg dollar gauge is on track for a third weekly decline after authorities rushed to protect depositors’ money and increased emergency liquidity measures to contain the fallout from the collapse of some smaller lenders. That prompted investors to bet on Fed rate cuts this year to safeguard the economy.
“For the first time in 18 months or so the Fed has a more immediate risk than inflation ‒ the acute risk is that excessive hawkishness could rekindle bank stress,” Englander wrote, adding that “Inflation risk remains, but inflation is likely to be relatively slow-moving and can probably be addressed with gradual hikes, if needed.”
The dollar smile theory predicts gains for the greenback during times when the US economy is either in a deep slump or growing strongly, and underperformance during times of moderate growth.
Read More: Inventor of the ‘Dollar Smile’ Says Soft Landing Beckons for US
--With assistance from Michael G. Wilson.
©2023 Bloomberg L.P.
Advertisement