Dollar’s Reign to Falter in Second Half of 2025, Predicts UBS Amidst Overvaluation Concerns
The US dollar has commenced 2025 with a robust performance, nearing multi-decade highs. However, strategists at UBS anticipate a reversal in this trend during the latter half of the year, citing the greenback’s current overvalued status. Despite the dollar’s recent surge, UBS maintains its forecast of a two-part narrative for 2025: dollar strength in the first half, followed by a partial or full reversal in the second. This projection stems from the dollar’s substantial appreciation of approximately 9% since late September 2024, pushing the index above 110 and into what UBS considers "strongly overvalued territory." Further bolstering their prediction is the elevated level of investor positioning in the dollar, with CFTC futures data revealing the highest net long dollar positions since 2015.
The dollar’s ascent has been fueled by consistently robust US economic data, outperforming expectations in areas like nonfarm payrolls and the services sector purchasing managers’ index. This positive economic performance has diminished market expectations for Federal Reserve rate cuts in 2025. While the market consensus has shifted towards anticipating just one rate cut, UBS remains steadfast in its projection of two cuts totaling 50 basis points, expected to occur in the second and third quarters of the year. The divergence between market expectations and UBS’s forecast contributes to their outlook for a weaker dollar in the latter half of the year.
In the short term, however, the prevailing narrative of "U.S. exceptionalism" is likely to sustain the dollar’s strength, particularly if economic data remains robust. UBS also points to potential tariff implementations by the incoming Trump administration as an additional factor that could bolster the dollar, noting that current market pricing doesn’t fully reflect this risk. With the inauguration just days away, the potential for new trade policies adds another layer of complexity to the dollar’s trajectory.
The interplay of these factors creates a dynamic and uncertain outlook for the dollar. While short-term strength appears likely due to continued positive economic data and potential trade policy shifts, the longer-term picture suggests a weakening of the dollar as overvaluation concerns and anticipated Fed rate cuts come into play. This two-phased forecast highlights the complex and often contradictory forces that shape currency markets.
UBS’s prediction underscores the cyclical nature of currency markets, where periods of strength are often followed by corrections. The current overvaluation of the dollar, coupled with anticipated changes in monetary policy, suggests a potential turning point in the near future. Investors should be prepared for a potentially volatile ride as these opposing forces play out.
The divergence between UBS’s forecast and market consensus adds another layer of intrigue to the dollar’s trajectory. While the market leans towards limited Fed intervention, UBS maintains its conviction in a more dovish approach by the central bank. This disagreement highlights the uncertainty surrounding the US economy and the potential impact of policy decisions on the dollar’s value. Only time will tell whether the dollar’s current strength will persist or if the anticipated reversal will materialize, making for a captivating narrative in the currency markets throughout 2025.
