A challenging year for the U.S. dollar is concluding with indications of stabilization; however, numerous investors anticipate that the currency’s downward trend will continue next year as global growth accelerates and the Fed implements further easing measures. The U.S. dollar has declined by 9% this year against a basket of currencies, positioning it for its worst performance in eight years. This downturn is influenced by expectations of Federal Reserve rate cuts, diminishing interest rate differentials with other major currencies, and rising concerns regarding U.S. fiscal deficits and political uncertainty. Market participants widely anticipate a continued depreciation of the dollar, given that other significant central banks are either maintaining their current policies or tightening them. Additionally, the transition to a new Fed Chair is projected to signal a shift towards a more accommodative stance for the central bank. The dollar generally declines when the Fed reduces rates, as diminished U.S. interest rates render dollar-denominated assets less appealing to investors, leading to a decrease in demand for the currency.

“The reality is we still do have an over-valued U.S. dollar from a fundamental standpoint,” Karl Schamotta stated. Understanding the dollar’s trajectory is crucial for investors, considering the currency’s pivotal role in global finance. A weaker dollar enhances U.S. multinational earnings by elevating the value of overseas revenues when converted back to dollars. This dynamic also makes international markets more appealing by offering an FX advantage that surpasses the performance of the underlying assets. In light of the dollar’s recent rebound, with the dollar index rising nearly 2% from its September low, FX strategists continue to uphold their projections for a weaker dollar in 2026, according to a survey. The real broad effective exchange rate of the dollar, which reflects its value against a diverse array of foreign currencies while accounting for inflation, was recorded at 108.7 in October. This represents a minor decline from the peak of 115.1 observed in January, indicating that the U.S. currency continues to be overvalued, as per data from the Bank for International Settlements. The line chart illustrates that the recent pullback this year has minimal impact on the currency’s high valuation, which remains robust due to a sustained multi-year increase. The line chart illustrates that this year’s pullback has minimal impact on the currency’s high valuation, which remains robust due to a sustained multi-year surge. Anticipations regarding the dollar’s decline are contingent upon the alignment of global growth rates, with the U.S. edge projected to diminish as other significant economies gather strength. “I believe the distinction lies in the fact that the global economy is poised for greater growth in the coming year,” stated Anujeet Sareen. sanctioned oil tanker in According to investors, Germany’s fiscal stimulus, China’s policy support, and enhanced growth trajectories in the euro zone are anticipated to diminish the U.S. growth premium that has bolstered the dollar in recent years.

“When the rest of the world is starting to look better in terms of growth, that’s favorable for the dollar to continue to weaken,” Paresh Upadhyaya stated. Even those who are optimistic about the dollar’s decline suggest that any significant impact on U.S. growth could negatively affect the currency. “If you see any weakness at any point next year, that could probably be bad for markets, but that could definitely affect the dollar too,” stated Jack Herr. Anticipations regarding the Fed’s ongoing rate cuts, in contrast to other significant central banks maintaining or increasing rates, may exert downward pressure on the dollar. The Federal Reserve, exhibiting a clear division among its members, implemented an interest rate cut in December. The prevailing outlook among policymakers for the upcoming year suggests the possibility of an additional reduction by a quarter of a percentage point. As Jerome Powell prepares to transition out for President Trump’s upcoming Fed chair selection, the market might anticipate a more lenient central bank in the coming year, considering Trump’s advocacy for reduced rates. Among the recognized finalists for the Chair position are White House economic adviser Kevin Hassett, former Fed Governor Kevin Warsh, and current Fed Governor Chris Waller, all of whom have expressed support for reducing interest rates from their current levels.

“Although the market expects limited action from the Federal Reserve next year, we believe the trend is toward lower growth and weaker employment,” stated Eric Merlis, noting their position of being short the U.S. dollar relative to other G10 currencies. Traders anticipate that the European Central Bank will maintain steady rates in 2026, although a rate hike remains a possibility that cannot be dismissed. The ECB maintained its policy rates at the December meeting and adjusted some of its growth and inflation forecasts upwards. The dollar’s depreciation this year mirrors its decrease at the onset of Trump’s initial term. The dollar’s decline this year mirrors its decrease during the initial phase of Trump’s presidency. While longer-term perspectives suggest potential dollar weakness, investors have noted that a short-term rebound for the dollar should not be dismissed. Ongoing investor excitement regarding artificial intelligence, along with the consequent capital inflows into U.S. equities, may offer short-term backing for the dollar. The reopening of the government following this year’s shutdown, along with the tax cuts enacted this year, may enhance U.S. growth and potentially strengthen the dollar in the first quarter, according to Brandywine’s Sareen. “However, we are led to believe that this is unlikely to be a consistent factor influencing the dollar throughout the year,” he stated.