In a world of high volatility and increased potential for geopolitical shocks, all countries need to run higher real rates to ensure tolerable currency stability, and to provide more time for central banks to respond. EM countries are most vulnerable to capital outflows on these types of risks.

The affects of trying to run low real rates in this environment can be seen via pronounced currency weakness for low real yielders like TRY, KRW, INR, and it complicates policy for modest real rate countries with a deteriorating BoP position like, IDR & PHP.

Central banks in South Korea, Philippines, Indonesia and India have all been drawn into FX intervention to address currency weakness. INR and IDR via large scale intervention, while BoK used verbal intervention aggressively (threatening FX audits), and BSP continued to smooth downside volatility.

There is a recalibration going on that requires central banks to raise real rates and to address market frictions to any degree possible that limits the need to excessively intervene and burning FX reserves. BI has had to raise rates 75bps in the last 20 days, including an out of cycle hike yesterday to help get USDIDR back below 18,000.

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June may be the month the market stops pricing derelict central banks as a major risk factor. Not the beginning of the prophesied hard money phase just yet, but an end to the market view of central banks as simply backstops and vol killers. A change in mentality from “anything for growth,” or avoid the hard decisions because “global disinflation will always bail me out.” It won’t start as a massive wave, but the trickle is beginning.

The ECB, Fed, and BoJ all hiking rates in June would launch this view on to the front pages, as the G3 always set the tone. An early Fed rate hike would also debunk so many of the misinterpretations of Kevin Warsh as a Fed Chair. But more importantly, it will constructively change the risk management framing.

Admitting that the pressing task is not simply to deftly weigh the trade-off between the current energy supply shock being either inflationary or a hit to growth, but rather, admitting the job on inflation from the previous cycle was not complete. The starting point for this shock is what uniquely dictates the risk management view, not generic analysis of past supply shocks.

April and May central bank meetings were a muddle of responses, and policy meeting minutes reflected various degrees of change in tone. Dissensions were high (BoJ, Fed, BoK, RBNZ), while a few Banks mounted the courage to hike (RBA, NB, BI). This is what transition looks like.

Going forward, the economic circumstances may be less important than the shift in philosophical view. Central bank failures to anticipate the last inflation cycle have combined with current events to shine a spot light on central bank independence. And, central bankers understand that mission failure is the surest way to invite greater government intervention. Therefore, there is more than short term inflation risks at play here. Central banks around the world need to start displaying ‘ahead of curve’ mentality.

Without over emphasising the impact of a few central bank leaders, building momentum for institutional and philosophical change does start with individual leadership stories. Both Kevin Warsh and Shin Hyun-song, Governor of BoK, are timely appointments that can begin to change the global debate. Other global inflation hawks (Gabriel Galípolo BCB, Ida Wolden Bache NB) will soon find new birds of a feather.

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I’ve written a number of pieces this year on the DXY Index range and what scenarios might be needed to break the range (14 Apr, 26 Mar, 3 Feb). From the first report in Feb I divided 2026 into anfirst half/second half story, as the calendar begins to add constraints from next month.

Trump started 2026 prioritising geopolitical gains. The script argued for a Q2 wind down so that June-Oct was all about celebrating the World Cup, 250 year anniversary, and victory lap on growth. This would give GOP the best chances to win at the midterm election. There was a moment in early April when the market called this neat timeline into question. However, now, as we conclude May with a ceasefire holding and a successful US-China summit concluded (strategic stability as a détente framework for G2), the scenario and timeline have gained traction.

What does that mean? The DXY Index range top-side breakout for the second half is now the primary trade. First quarter GDP was solid, and corporate earnings shot the lights out. My Feb stylised factor weights were:

60% - Growth & Risk Asset perf

15% - US-centric factors

10% - World Order shifts

5% - Valuation

5% - Intervention & forced sellers

3% - Interest Diffs

2% - National security imperatives

The US earnings story powered through the uncertainty and strongly rewarded all those overweight foreign investors. That’s how you sustain high valuation.

84% of the S&P companies have reported EPS above estimates, which is above the 5-year average (78%). This was not only a Mag-7 story. Mag-7 exceeded estimates by 32.5%, but the rest of S&P exceeded estimates by 16.6%. The broad market earning story is building and gaining moment.

And the outlook remains bullish. Estimated earnings growth for 2026 for both the Mag-7 (34.9% vs. 24.3%) and the other 493 S&P 500 companies (17.9% vs. 14.7%) are higher today compared to March 31, as analysts have increased full-year EPS estimates for both groups.

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The market became fixated on de-dollarisation themes between 2021-25 primarily because of Biden-era policies that exacerbated the fundamental cracks in the system. The debasement view was fuelled by rampant inflation and a Fed willing to risk long-term inflation credibility on a post-lockdown recovery. The fiscal sustainability fears were inflamed by the combination of $4.68trl in new deficits created and the rise in bond yields driving interest rate burden from 5.3% in FY 2020 to roughly 13.8–14% of budget in FY 2025.

This would have been a disaster for the US dollar if it was the only country undermining its long term fundamentals. Sadly, these fiscal risks were taken across the developed world, and many EM countries saw fiscal deterioration due to declines in tax revenue, China in particular. This led to the relative story playing out on the fields of growth and innovation, rather than hard money credentials.

Even more important than relative reserve currency economic fundamentals, issues of dependency occupied the minds of policy makers post-Covid. Supply chain vulnerabilities became the primary focus. This was then further exacerbated by Russia invasion of Ukraine, triggering a wide spread sanctions regime. The sanctions regime and FX reserve custody risk were suddenly driving national security strategy by those least aligned with the US & Europe.

Four years of intense geopolitical manoeuvring and China is still no further down the de-dollarisation path than any other BRICS member. A flurry of digital currency projects, a strategic effort to hoard gold and make HK/Shanghai the global centre for metals trading, and a few token efforts to switch to RMB invoicing with client states have brought China no closer to its goal of RMB internationalisation.

Demand for CGBs has wained, non-Chinese bank assets, staff, branches inside China have all stagnated or declined over the past 4 years. It turns out global markets will always prefer a free-floating, highly liquid, low reg/high utility currency over fear of debasement risk.

Introducing Sinodollars

So how does China transition now? Firstly, let’s refresh on the risks that theoretically drove the strategic concerns.

• Sanctions. If sanctions are aimed at companies, rather than country, they are more manageable. Companies can be cordoned off, replaced, sacrificed. National sanctions are what must be avoided.

• Asset custody risks. SAFE has steadily shifted its USD asset holdings from US Treasury custody to Euroclear and Clearstream, so that custody risk is more or less 50/50 now between the two legal regimes. On Euroclear, at least SAFE sits on the Board as a 7% shareholder. It hasn’t mitigated custody risk overall, but it has mitigated unilateral action risk by the US.

• Facilitating the exorbitant privilege. With the onset of disinflation, China borrows at the lowest yields globally, rendering the relative borrowing cost issue a mute point in this global rivalry.

This process of transitioning custody risk to Belgium & Luxembourg has undoubtedly been instructive to China, as it highlights the difference between US treasuries as an investment asset vs a collateral asset.

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All bilateral summits between superpowers are major events for the financial markets to position for, trade after, or to simply update their strategic world view. On this level, they can never be dismissed. However, given the low political cycle risks for both Xi and Trump, neither need a big outcome, thus, lowering the stakes for the market.

This event is more of a trend extension story, rather than strangle breakout scenario. This meeting is about extending the détente already in place, and to decide what new achievements might be possible before Trump leaves office.

In spite of the challenges of working with Trump, President Xi understands that Trump presents a unique opportunity in history to deliver an unpopular, yet strategically important advancement in US-China relations. Both leaders should have an interest in making use of Trumps final two years. The question is, what’s on offer?

The general tone and theme of the meeting from Trump’s entourage will be “let’s do business, not war.” This is Trump’s starting point for finding common ground with everyone. War is expensive. War is a drag on scarce resources. We all have enough problems without this extra expense. When China is in the mood, it has a similar disposition.

A Board of Trade announcement might initially be taken as a bullish headline coming out of a meeting where many fear Iran and Taiwan will dominate the conversation, but careful what you wish for.

A US-China board of trade would not bring smiles to the WTO-loving middle power conventions around the world. Nor would it necessarily signal blue sky for commodity producers currently enjoying the early stages of a bull market. Hashing out the rules of the game for dual-use exports might help mitigate hotter styles of trade war in the future, but arranged trade on everything else would be a death knell for WTO, cartels, and other forms of trade leverage sought by smaller markets.

Dollar moves

There are several angles to consider on the dollar for these events. The current trend strongly in train right now is commodity currencies. Any commodity export country executing reasonably well on economic policy is seeing sharp gains (AUD, ZAR, BRL, NOK, MXN). Announcements from the Summit that keep global growth moment positive (everybody’s objective) will push this trend further.

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April ended with a bang. Brent oil prices pushed to March highs on no US-Iran deal, but equities remain solid and the BoJ intervened in USDJPY on behalf of the MoF for about $35bn, and threatened more. This pressed the war news-trained dollar index back into the middle of its range. And notably, VIX traded below 20 for the first time since February. No big issues resolved, but vol crushed through constant verbal and market intervention. Kudos team G7.

Welcome to 21st century geo-economic management. Reefing secondary channels of financial market disruption into the real economy neutralises one of the most popular tools of irregular warfare practiced by G7 adversaries over the past decade. Managing a democracy with free markets and a free press makes the G7 countries vulnerable to market shocks in a way autocratic, and/or state-owned economies are not. Developing tools to neutralise these threats is an evolving game. The better they are managed, the lower the financial market vol. Reducing the attractiveness of excessive, reactive hedging that so often destroys P&L.

Let’s start with intervention

MoF intervention website was updated yesterday, but only covered the period 30 March to 27 April, meaning calculation of the size of yesterday’s intervention is only possible through analysis of central bank accounts until the end of May, when MoF will officially confirm.

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For all the excitement of CNY replacing the dollar as a global reserve currency last year, the actual trend of foreign buyers accumulating Chinese Government Bonds (CGBs) peaked in April 2025 and has been falling ever since. Peak holdings at SHCH and CCDC were RMB 4,444 bln April of last year, but have now dropped to only RMB 3,190 bln, down 27% in one year. Northbound trading activity reached a record high on Bond Connect last month, but this was about more selling, not buying.

While the Global Times ran headlines like “Chinese government bond yields have demonstrated notable resilience,” and equated controlled volatility to safe haven status, the truth was, foreigners were selling CGBs. A safe haven asset is one the world buys in times of crisis, not the one least traded with no volatility.

To be fair, majority of the drop in holdings came from SHCH (-67%), which are dominated by NCDs. Foreign holdings of these short term instruments have dropped sharply as China becomes the world’s de facto low yielder. Still, this is not a trend that is going away. Mired in deflation, China’s hopes of becoming a significant global reserve currency are destined to suffer the same consequences as JPY when Japan fell into a deflation phase, marked by continuous low rates.

Japan’s global bond investor whale GPIF famously excluded CGBs from its WGBI benchmark back in 2021 when China’s phased inclusion began. Noting three simple reasons: liquidity, settlement issues, and geopolitical risk. This doesn’t look to change anytime soon, given it has also excluded China A-shares since last year. GPIF issued this claim last year when announcing the benchmark change;

The exclusion of China A-shares is due to concerns the pension's investments may be hindered by potential issues including international settlement, market liquidity, restrictions on foreign investors, frequent policy changes and securities transactions suspension, GPIF said in a statement on March 31.

I’m not exactly sure why or how this debate about RMB’s attractiveness as a reserve currency continues to thrive year after year. Every market measure and policy choice since its 2015 SDR inclusion has fallen massively short of what is necessary to attract free-flowing, defensive, global safe haven capital.

The CNY may offer something different to dollars, but it is not better reserve currency characteristics. It may shelter you from sanctions - temporarily until secondary sanctions kick in - or it may shield you from normal free-market FX volatility, as pegged currencies and aggressively managed floats do, but show me a global currency with RMB-like characteristics that qualifies as a reserve currency?

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For many it feels like the world has changed since Trump’s second term began. In particular, there has been a proliferation of structural dollar decline theses. Many of them were a continuation of hysteria that ensued during Covid lockdowns. This 2020 to late 2024 period where theoretically the world order mean reverted without Trump in the White House established a broad dollar range for most currencies that still holds today.

The bottom print for the range occurred in June 2021 following the Fed FOMC meeting where forward guidance in the SEP dot plot took a more hawkish tilt for the first time. This marked an end to the most accommodative policy phase post-Covid. The dollar then rallied for the rest of the year, and accelerated further following the start of Russia-Ukraine war, and belated, the first Fed rate hike.

Both the highs (Jan-25) and the lows (Jan-26) during the Trump 2.0 phase since then have basically been within the top half of this post-Covid range. The high in Jan-25 was well below the 2022 peak on DXY, which is why few really considered this slightly higher peak on the Broad Dollar Index an upside range break. A slightly stronger EUR, with its high weight in DXY (57.6%), and modest dollar strength against MXN (15.4% weight in the Broad Index) produced this higher peak in the Broad Index in Jan-25.

What is important to understand about this broad dollar range is just how much it contains of the supposed structural change the world has experienced. And, even more surprising, that the dollar has spent the last 4 years of this period in the upper half of this broad range. For this reason, I like to use these broad parameters to view the relative performances of currencies across geographic region, liquidity, economic structure, etc. If the old world order is passing, but the currency relationships remain broadly the same, what does that say about the change to the dollar’s role in the currency system?

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As the end of the first phase of the Iran war draws near, deciding how to play phase two requires a nimble, multi-timeline strategy. While many would hope for a clear peace vs chaos binary outcome, it is more likely to be somewhere in between.

Most market participants assume Trump is keen to get back to business and his domestic agenda. The approaching summer events of World Cup and 250-year anniversary of the Republic are strong arguments for this, as is the looming November midterm election. Therefore, the question should be, which countries can pivot back to growth & optimism most quickly, should phase two begin this week?

Firstly, given the low probability of full peace as the outcome, lets start with a scenario where ship traffic through the Strait resumes to at least 50% of pre-conflict levels in Q2, and the US begins removing major offensive military assets from the region. This allows the beginning of the ‘transitory’ shock narrative to be traded. The two-month shock will certainly drive many long term strategic adjustments globally, but the more pressing macro shock of punitive energy prices and stagflation will be partially faded.

Same old winners

Deciding which countries, currency and stock markets to back should fall out of a simple thematic filter like this:

• Most energy independent/insulated

• Strongest Capex growth & pipeline stories

• Strongest corporate earnings stories

• Fiscal stimulus neutral to positive

Degree of energy shock insulation will have reduced the damage to sentiment over recent weeks. A strong capex story marks existing commitments that will underpin growth momentum after March instability. Earnings over GDP will offer clarity and decide market leadership while macro data are choppy. Public sector commitments, like capex, will already be in the pipeline and unaffected by March madness.

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As the dollar continues to hold to the middle of its 4-year range (DXY), the scenario for only a gradual adjustment to USD allocations from Europe flagged in my 27 Jan report would appear to be playing out. The post-Davos hysteria has settled and the harsh reality of geopolitics (and domestic politics) has modified simplistic, reactive plans. The thorny problem of where to invest new money, if not the US, remains an unresolved strategic dilemma for Europe.

Home bias has many names—industrial policy, risk reduction, supply chain resilience, patriotism, or even just hedging—but one that it can’t claim to hold is profit maximisation.

In purely risk management terms, the objective of diversification was historically used to justify greater allocations to international equities, particularly from small and midsized countries. Reducing large domestic allocations in favour of international assets brought diversification, a broader sectoral investment opportunity set, and higher returns.

However, benchmark-driven outflows over several decades naturally produced a new form of risk concentration; an over-sized allocation to US assets. This then morphed into excessive exposure to an overvalued dollar, which in turn became an uncomfortable exposure to shifting US political and geopolitical trends.

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Four types of crisis:

1. US-driven trade war shock (global tariff strategy)

2. Russia-Ukraine war peace efforts/fiscal stress/allied deterioration

3. China global export restrictions on rare earth elements, processing tech, and batteries inputs

4. US Iran regime-change campaign

For the first event, last April, the market interpreted it as an economic shock for the US, and a reduction of trust in USD-backed institutions.

In the second event (summer 2025), the market also interpreted events as reduced faith in US commitments to old World Order architecture, typically conflated with USD system architecture.

The third event, in October last year, was viewed as risk appetite negative, but positive for the US, as it validated China dependency concerns underpinning Event No.1.

The fourth event has been traded in a classic risk-off, save-haven flow manner for the US dollar. Political quagmire for the US or not, the initial effect was to acknowledge US raw power, and the general US economic insulation from an oil shock, relative to peers. It also helped that the war is taking place in a USD-centric part of the global economy where other countries have greater vulnerabilities.

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1. Fist half/second half scenario (tradable risk)

2. Strong Trump momentum scenario (trending risk)

3. Mid-terms change everything scenario (cliff risk)

My starting point was based on Scenario 1, which was closest to my view, and I was prepared to dynamically update the environment and drift toward 2 or 3, if necessary. With the shock strikes from US & Israel on Iran, and subsequent temporary closure of Hormuz, DXY tested the top of its trading range, but did not break out, leaving us still very much in Scenario 1 with tradable dollar risks. A first half driven by the Trump agenda hard push, expected to be followed by consolidation pre-Midterms (July-Oct).

In past reports, I have described the Dollar Index as still in a long term structural uptrend, while being in a near-term range of 101-92. My expectations for 2026: that it would spend its time in the lower half of the range for 1H-26, followed by a shift to the top half in 2H-26, remains intact. The flight to quality spike these past two weeks was certainly helped by market shorts, and the fact that the geopolitical event took place in a dollar-centric part of the world.

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With so many negative stories and shocks in 2025, it may seem surprising that USD hasn’t really changed in the past 8 months. DXY is basically unchanged from April last year. As the full year 2025 cross-border flow data start to print, it is easy to see why. The US saw over $300bln FDI inflow, up 10% from 2024. Likewise, TIC data recorded a $1.2trl inflow into US long term securities, a nearly 50% increase over 2024. The private sector is clearly showing no US market avoidance.

Most of the negative headlines and angst derive from diplomatic tensions, creating fear that official flows will change course. The truth is, COFER data have been pretty stable since 2020. China is allowing its FX reserve/treasury portfolio to roll off at maturity, Japan is reinvesting maturities, and UK/Europe custody holdings rose. This is a story of FX reserve saturation as a hedge, not a strategic shift from dollar utility as liquidity backstop. Basically, most of the world doesn’t need further FX reserves to perform its liquidity buffer function. They’re all portfolio investors now.

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The great power rivalry between US and China keeps the dollar dominance/demise narrative perpetually in the press. The market (optimistically) has generally evolved to a less reactive status on this front, but as 2026 will likely be a year of a few major asset allocation (AA) changes, it is worth while revisiting the essential components of dollar dominance.

Deconstructing healthy, normal, cyclical, investment return-driven aspects of dollar declines from those associated with geopolitical risk, sanctions risk, institutional credibility, etc., should greatly improve portfolio decisions. Understanding who is selling and why leads to much more accurate extrapolations.

Firstly, most sophisticated investors understand by now that dollar dominance as we know it in current times is driven by: high levels of int’l invoicing, liquidity, Fed lender of last resort, deep pool of safe assets, legacy network effects, and high risk-asset returns. But how did we get here 1990s => present?

The path for FX reserve managers has been a very different one, relative to global asset managers. Some of the incentives have overlapped, and analysis of the global macro and geopolitical factors may be similar, but the two groups have very different mission objectives, and most importantly, constraints. Retail investors, while representing a different analytical constituent, generally model behaviour of both major players.

Reserve managers

The analysis of reserve managers has been a steady feature of markets since the 1990s when greater cross border capital flow and prevalence of EM crises made it essential. Since the IMF started publishing quarterly COFER data in 2005, it is now often considered to be an established transparency. And yet, China only began releasing data in 2015, and the rise of SWFs globally have further complicated analysis of intent VS action in an already highly opaque space.

The market is expected to make sense of strategic FX reserve decisions where the primary reserve currency (USD) has only peaked twice in the past 40 years, based on a poorly attributed, voluntarily submitted, dataset that only goes back 10 years.

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And, Takaichi’s strengthened individual position within the LDP and ministerial establishment will now allow her to resist non-core Agenda demands. Meaning, she has the political cover to be more fiscally conservative. If she wants to strengthen her message on “responsive proactive fiscal policy”, she has the freedom to do it overtly now.

I’ve posted the following post-election piece on the Global Watchtower. It may serve as useful background to read for the coming week and reopening of the Diet. A pro-growth, Koizumi-like reform agenda is a much better narrative for the market than Abe 2.0.

Global Watchtower

Takaichi fusion of Koizumi and Abe

Supermajority is a big payday…

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4 months ago · 3 likes · Mark Farrington

• Note to Dollar Watchtower subscribers, the Global Watchtower is a free publication. I write my geopolitical and general global macro background views there. It is useful to subscribe to Global Watchtower to capture the continuity within my Watchtower Series. I typically write the Dollar Watchtower & BoJ Watchtower under the premise that my broader geopolitical and cycle views are already known.

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Fundamentals shifting

Following up from Watchtower reports last week, fundamental shifts influencing the USD continue to print with a flurry in 2026. On the back of Davos week, where the Trump entourage lit fire in the snowy mountains of Switzerland, we now have hard-money Warsh nominated to the Fed Chair, a second government shutdown avoided, and sensible caution surrounding an Iran strike being shown. This has helped steady the dollar post-Davos.

While Davos events are certain to have a lasting impact on European attitudes toward concentrated risk in the US, as with all Trump shocks, once the emotions recede sensible decisions are more methodically implemented.

What will drive trust/belief/default-based investment in the US from its allies & friends will be performance. Strong growth & superior risk asset returns will continue to demand overweight positions. However, if political vol begins to clearly mess with US economic performance, AA reductions will accelerate.

But these aren’t the only moving parts. Elevated geopolitical systemic risk pressure ensures we will continue to experience shock events, many of which will hit others harder than the US. Political, fiscal, and currency debasement risks are equally (if not more) pronounced elsewhere (EMU pressures in particular). Keeping track of the shifting weights on primary dollar factors this year will be a challenge. Let’s lay them out again for clarity.

• US-centric factors

• World Order-centric factors

• National security imperatives

• Growth & risk asset performance

• Interest rate differentials

• Valuation starting point

• Intervention & forced sellers

Shuffling factor-weights in 2026

An approximate full-year factor weighting for USD in 2025 might look something like this:

50% - Growth & Risk Asset perf

15% - World Order shifts

13% - US-centric factors

10% - Interest Diffs

5% - Valuation

5% - Intervention & forced sellers

2% - National security imperatives

The Liberation Day shock drove some forced flows out of the dollar in Q2, while the Fed keeping rates unchanged until September held declines in check. Growth & inflation concerns dominated the Q2-3 period, but pessimism was strongly disproven by year end. National security issues and fears of World Order collapse dominated narratives, but concrete flows backing these policy shifts will only start with a lag.

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Challenges to the dollar’s long term uptrend continue to mount thus far in 2026. The broad DXY range of 90-105 that captures most of the dollar price action over the past 10 years is not in danger, but the weight of negative catalysts points to a shift into the bottom half of the range, after spending the last 4 years in the top half.

The strongest catalyst for 2026 should still be the move in North Asian currencies, where significant undervaluation and need for an AA shift to domestic bonds calls for trend reversal. FX intervention may be needed to get it started, but once it does, organic momentum should emerge.

If this was the only powerful trend emerging in 2026, then it wouldn’t be a big deal for the dollar, however, a shift in European sentiment toward the dollar now also seems inevitable. Geopolitical stress from Russia-Ukraine peace negotiations and effective control of Greenland have impacted trust levels between US and Europe. While these events don’t mark a full rupture of US-EU relations, they will certainly impact attitudes of a large portion of Europe’s population. Some recalibration of bilateral risk exposures should be expected.

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Yen weakness has presented an attractive USDJPY sell level for almost a month now, ever since the market reacted post-BoJ rate hike. This is the intervention zone. A well-tuned MoF that understood the market dynamics would have intervened by now, raising the stakes for future speculation, taking advantage of illiquid markets; Christmas, new year start, MLK day holidays in the US, etc.

MoF FX gurus from years gone by knew these things, knew how to take advantage of market dynamics to increase intervention impact, to instil permanent fear in the markets so that one-way speculation wasn’t as easy anymore. Fin Minister Katayama has revealed that she really doesn’t get this part of her job, or perhaps she feels out of her element. The truth is that none of us know. She is an unproven factor.

At the moment she is rolling out phrases used by previous Fin Mins, but they carry no weight because she hasn’t backed them up yet. The market doesn’t understand the MoF’s reaction function. Allowing this market authority to remain a vacuum for so long has been a mistake. Katayama needs to prove she’s up to the job.

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Two new channels of USD demand have already been generated for 2026, helping to ease the building temptation for diversification and home bias away from the US.

Strong growth and increased utility - the less ambiguous right side of the ‘dollar smile’ - should keep the dollar in its overvalued plateau range for another year. Risk of left-tail dollar smile flows are also perpetually present, keeping upside optionality high enough to support gains VS many countries.

My outlook for North Asia currency gains is unaffected by recent geopolitical events in the Caribbean, but the spectre for losses in Europe vs the US has increased. The positive commodity currency view must also be tempered, as US integration of the Venezuelan economy is bearish for CAD short term, and potentially bearish for AUD long term.

The two new notable drivers of USD demand are 1) the building US mega-IPO pipeline for 2026, and 2) the LATAM investment / dollarisation boom. Both force dollar demand as much out of necessity as they do preference.

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To forecast USD in 2026 it will require an accurate call on Yen crosses, as a sharp Yen reversal will support many other currencies gaining ground VS the dollar, North Asia in particular. While not always the case, certainly this year, in order to forecast the Yen, you need to understand how MOF and Japan’s long duration bond buyers will behave. The MOF must make its intervention threat credible under Katayama by taking concrete action, and Japan’s domestic LT bond buyers need to announce their intention to allocate away from foreign to domestic bonds. Both are Q1 stories. The Gov can help produce this outcome on both fronts.

The general pressure from Washington to strengthen currencies in North Asia is already known, given that all are on the US Treasury ‘monitoring list’. Public statements thus far, however, have been nuanced and couched in generally tolerant language from Sec Bessent, and others:

Yen

June: In the U.S. Treasury foreign exchange report, called for a “normalization of the yen’s weakness.”

October: In a prress conference said, “the yen would find its own level if the BOJ follows proper monetary policy.”

Won

May: Media reports cited unnamed US source suggesting U.S. views a “relatively weak won” as contributing to Korea’s trade surplus

January 2026: BOK Governor Rhee Chang-yong said high-1,400 USD/KRW levels “do not accurately reflect the local economy’s fundamentals”

NT$

November: U.S. Treasury and Taiwan’s central bank issued a joint statement reaffirming commitments to avoid manipulating exchange rates for competitive advantage, continue close consultations on macroeconomic and FX matters, and increase transparency (e.g., Taiwan moving to quarterly disclosures of interventions starting in 2026).

However, what we don’t know is the actual level of pressure behind the scenes, or the verbal pledges from Asian counter parts to ensure currency undervaluation actually starts to get addressed during Trump’s term.

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