SocGen: The U.S. Dollar Has a Brand New Role in Global Markets

Meet the new, risk-on greenback.

Why Is the Dollar Rallying in Wake of Fed Decision?

A safe haven no longer?

Kit Juckes, global strategist at Société Générale, has noted that the movements of the world's reserve currency—the U.S. dollar—have been out of the ordinary for the past two months.

In his daily morning note, the strategist pointed out on Tuesday that the U.S. dollar has been correlating with both stocks and bond yields since mid-July:

Bloomberg
Bloomberg

Over the past two months, on days when equities and yields go up, the U.S. dollar has tended to gain relative to a weighted basket of the euro, yen, pound, loonie, Swedish krona, and Swiss franc.

The greenback's "status as a funding currency or as a safe-haven currency for that matter is lost," wrote Juckes. "Instead, it’s a barometer of the global mood."

Investor positioning gives a clue as to how the dollar was able to reinvent itself: for the most part, market participants have been net long the greenback and the S&P 500-stock index while short U.S. Treasuries in 2015.

This is a far cry from how the U.S. dollar was treated a few years ago and how it has historically been viewed.

Typically, in times of market stress, traders flock to the world's reserve currency.h at didn't happen during August's carnage, at least for the currencies in the DXY index.

A mitigating factor in this instance is that the upheaval has been limited to financial markets, rather than the real economy. In the event that economic conditions were deteriorating notably around the globe (think widespread contractions, not just slower growth), the dollar could potentially reclaim its safe-haven status.

And in the wake of the Great Recession, which elicited a high degree of unconventional monetary policy in response, the weaker U.S. dollar, lower bond yields, and subdued growth outlook fostered a pickup in the use of the greenback as a funding currency. That is, traders would sell U.S. dollars and use the proceeds to purchase higher-yielding foreign assets in what is commonly known as a carry trade.

Due to the fact that longer-dated U.S. Treasuries command a sizable premium relative to most debt denominated in other major currencies, the greenback's role as a funding currency has been largely supplanted by the euro.

"At the moment, significant further dollar strength is dependent on both longer-dated U.S. yields and equities rising.," wrote Juckes. "That’s possible on a quiet day like today, but if we get back to more risk-averse markets, the dollar is unlikely to out-perform the yen and euro, even as all three do well against everything else."

The phenomenon was on full display for a key moment early this morning. European stock markets plunged on the open, dragging down S&P 500 futures and bringing the dollar down, relative to the euro, in tandem.

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