US President Trump's tariff policies have had a profound impact on global financial markets, but one of the most surprising has been the sell off in the US dollar. Since the president's inauguration, the US dollar has weakened by over nine percent versus a basket of major currencies, as measured by the DXY Index. What's also unique is that this sell off has occurred during times of financial stress in US equity and bond markets, leading some analyst to question
whether the currency is losing its safe haven status. This fear was further exacerbated when Moody's downgraded the US credit rating from triple A to double A one. Are we entering into a period of d dollarization? What does this mean for Asia's currencies? And what about the region's central banks, companies and financial institutions, many of whom are the biggest holders of US treasuries and are heavily exposed to FX risks. Listening to Aga Centric from Bloomberg Intelligence. I'm John Lee
here in Hong Kong. Today we have a regular on the show. He's my colleague Stephen Chu, Chief Asia FX and Great Strategies for Bloomberg Intelligence. Stephen, welcome to.
The show Hi, John, thanks for having me. Stephen.
Are we entering into a period of d dollarization, Well, I would.
Say yes and no, because this period actually has started up over ten years ago in twenty fourteen when Thursday's Russia and Cremer incident, and apparently Russia has start to offload their US treasuries and then followed by of course China also start to reduce their holdings. So it has started just at a very gradual pace. And what happened this year, especially in April, I would say, is just acceleration of it. And if you ask me, it's still
somewhat orderly. Of course, it's very rare that we saw US dollar, US treasury, and US equities all setting off at the same time. So it's very clear that market had enough of the TI riff game. So they don't want to care about the reciprocal tariff. They don't want to wait for any trade trials or trade deal. They just vote by action that they're questioning the credibility of the US, the credibility of the dollar, and of course
the US Treasury. So I would say that's why, yes, I know it has started before, it's accelerating, and whether it's going to continue to accelerate really depends on what the US administration does, so we're going to look forward to that going forward.
I want to just repeat what you said, and you refer to the events in April. Now, when the US announced reciprocal tariffs, the S and P five hundred sort off by more than twelve percent. In the next few days, blond yuods were also rising, but we had surprisingly the US dollar sell off. Now has these things happened before.
Yeah, at least memory search. I've been the futual about fifteen years. I've probably never seen that. It's quite interesting because if we drill down into the performances, so the dollar weakness was very apparent against the major currencies, especially the Euro and the end. So that tells you that the market theme is about changing the view of which currency is more credible as a reserve currency. So we know when we look at the reserve currencies, there's the dollar,
there's a euro, Yen Stirling. Of course, Chinese un is a very interesting one and market always lost to talk about it, but practically speaking, the UN didn't really rally right away, meaning that market at the end of the day is still more comfortable with the uro and the yen, the major currencies, and in fact Asian currencies didn't already against the dollar. Some actually when weaker, especially the un before really rallying towards the end of April and early May.
So are we starting to see a change in the paradigm of FX investing now? I know a lot of FX strategists talk about this smile theory for the US. Can you give us like an FX one O one? What does this smile theory mean?
Yeah? Sure, So it's a very that's very well known in the fics community. So it's proposed by Stephen Lee Jen in two thousand and one. It's a relationship between the US dollar and the US economy, so very simple. When the US economy is super strong or super weak, we see a strong dollar. When it's super strong, we have the fat hiking rates them from an interest rate or carry perspective. So we saw a few years ago
after COVID, so the US dollar was super strong. However, in the extreme end, when we have say a US recession, a global recession, everybody cutting rates. It's a risk of scenario and the dollar, of course, we all know that it's really the top most credible reserve currency, at least
before this year. So we have a very strong dollar at the extreme ends, and only in the middle, in the middle of the smell, we have a weaker US dollar because when the world is peaceful, then everybody used the dollar as a funding currency to buy something else.
Okay, so that's the dollar smile. Now, what's happening now.
Yeah, I would propose, of course, there are some people talking about it already, and we were one of the early ones proposing this so called dollar frown theory. So it's just the extreme opposite compared to a smell. So what happens is when the US economy is super strong or super weak, we'll see a weaker US dollar. The
rationale it's because of fiscal concerns. So when we look at the extremements, when the US economy is super strong and the fact cannot cut rates, just like what's happening now, market will actually dealt whether the US government can refine them as the debt at such a high cost, given that the US really funded spending with foreign flows. When that's in doubt, we saw what happened. US treasury is
selling off really since April to now, it's still going on. However, in the other end, when we saw say a global recession, a completely risk of scenario, the dollar is no longer the top choice for safe haven. People will go to eurog to yen, and go to gold, and gold will
be more sort of currency. Like during this juncture in the middle, when everything is fine, when we have no trade will the world is peaceful, then market may actually step back a little bit in questioning the US dollar, and we saw US dollar strengthening, which is why, as an example, we saw when the news about the US China trade tariff delay for ninety days came out, the dollar did rebound for a bit.
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and share. We had Moodies downgrade the US credit rating. Was this a big issue in your view, not.
Really, of course everybody talk about so it's no longer the highest rating government dat but it doesn't matter because eventually this is going to happen. And even if all these rating agencies don't address the concern, every single market player knows about the structural slash fiscal vulnerabilities in the US, so it's just a matter of time to see a proper reflection of that. So that's why after that move,
it's not really in use. But we saw the dollar selling off again and the US treasuries as well.
Okay, so it sounds like the US is slowly starting to lose its safe haven asset status.
Would you say, yes, definitely start losing, but from a very high base and at a very gradual pace, because if you ask me as an X trader, as a practitioner, I know everybody want to get out of the US dollar, but the reality is there not much to go to really, like there's as much gold as you can buy, there's only as much safe government assets out there beyond the US treasuries. So I would say it will still be a very gradual process, but at least it will continue going forward.
And that's why you mentioned gold. Now, is that why gold price is a continuing to go up.
Yeah, especially we know gold is priced in the US dollars, so it's kind of like a mirror image. As long as the dollar continues to weaken, we'll see record goal price every now and then. And central banks are really the ones that we want to follow. They are the smart people, and they have been buying really since twenty twenty two, or buying at a quicker pace right after COVID because they saw what's coming. We saw a more
bivocated world with all inflation anchoring. The fat had to rate to higher levels, but still not really dealing with the inflation issue. So that's why emerging Markeuess central banks, leading really by China, India and Turkey for example, they're all buying gold because they see this dollar era coming to be questions.
And I know you don't cover it, but I know you get this question all the time as well. Does that same theory apply to cryptocurrencies.
It's a little bit different because when we look back in history, usually when gold play a currency role, it's before, during, and after a major geopolitical incident, so namely the World War was so the gold being a unit and accounts
storage of value and transaction. Being a transaction unit, it's more credible like these days, like you still can't really transact with cryptocurrency, So I would say cryptocurrency might be a good choice if you have a portfolio that you want to exploit a weaker used dollar, But I would say goal to still play a larger role in this D dollarization trend, at least a larger share, because, after all,
crypto it's also a price in US dollar. So if you ask me, like, I'm no expert in crypto, but I would say it's just a dollar derivative or dollar assets, unlike gold.
Okay, so we've talked about the US the D dollarization. What does this all mean in terms of your forecards for the US dollar as well as against Asian currencies.
Yeah, so simply put, we're going to see a broad weekending in the US dollar. But of course there are different performances across major currencies, let alone Asian currencies, so we have to look at fundamentals. When we look at Asia, one reason why they didn't really rally before the majors until later in April was that we saw that their macro fundamentals were still quite vulnerable to the trade tar riff because we know trade tar riff target China, targets
Vietnam like a lot of the Asian partners. So at the end of the day, if we don't have a trade deal and if the effective tarret still end up higher than before the trade will, then that's going to hurt their economies. And we know they are very growth sensitive and capital flows into Asia. Really it's betting on their growth. Therefore, even though in a weaker dollar backdrop, even if Asian currencies rally, it's going to be more gradual compared to the g tens. Now when we look
at little podcasts the risk of larger appreciation. We saw what happened to the Taiwan dollar in early May, and possibly to Korean one and even Japanese yen. But that's for different matter. That's because of the nature of those economy and also with other players like the life insurance companies and pensions.
And I wanted to talk about the Taiwan dollar in a few minutes, but I wanted to draw back to the beginning of this year. Now, I remember a lot of FX strategists were saying that US tarists was supposed to support the US dollar, and these developments are surprised.
Not really now it did happen because market always priced in development before it happened. And when we look at the efics market pricing, it really started since late last year, before the US presential election in November, and then all the way until really early January, so that has been priced in by the market. We saw stronger dollar across the board across Asian currencies, and not until earlier this year, and markets start to question whether that policy could really
work to the US. And also to a point also thanks to the US President Donald Trump being so hardworking and posting about new policies every day, especially on tariff. So market, as we said earlier, might really be fed up with that. So they just decide, Okay, we're going to exploit your structural factors for the US. Usually it's more a medium to the longer term, but market decided they're going to bring it forward and treat it as
a short term driver. Therefore the dollar stopped strengthening and start to weaken.
Okay, let's talk about the tow one dollar, because it had a big move was it in May? Its strengthened by over seven percent over a few days. Now I think it was up by over nine percent versus the US dollar for the whole month. Tell us what happened to the Taiwan dollar and why was the move so abrupt?
Yeah, I think it was about over ten percent at one point for the first two days until the central banks step in. So what happened was quite clear. So we know most of the Asian economies exporters, they are the big players. But also we have to at least from now on market we have to pay a lot of attention to and other big players, which are the livers. So livers are most prominent or dominant in Taiwan of course Taiwan, and then we have self current japen Asulla.
You're talking about life insurance life insurance companies.
Yeah, so they have a lot of overseas investments just because the local market weren't big enough to absorb, so they don't have really a big logo born market. So in Taiwan's case, given the amount of the life insurance policies, they have to look for investments overseas, and clearly the
US market is really their major destination. So whether it's US treasuries, and to some extent, of course, it's actually they're more interested in the dollar credit with high yield, so they have a lot of dollar assets holding overseas.
What happened was now we have no proof and we don't know whether they have started selling the assets, but if they sold market really starting to question about the US status or the US dollar status, US treasury status, then it makes sense for them to at least either increase hatching or to sell the assets. So that was
what happened. They probably just try to hatch a little bit of their dollar holding by they usually do it through NDF so selling Dollar Tower and DF but probably given that the market was so feen, especially I remember it was a mainland China holiday, price actions got exaggerated and then we saw a huge appreciation in the Taiwan dollars. So that's what happened until the central bands step in.
Of course, now the tides has come a little bit, but it doesn't change the fact that at least for Taiwan, they're holding over seven hundred billion US dollar or foreign assets, mostly in the US dollar. At some point they will have to deal with it either they have to hatch more of it, or they'll have to out it. In either case, it's going to hurt the US dollar. Also, one very popular ethics theme is market or at least a taiwan Is players, they're trying to hash through other currencies.
It makes sense because everybody hashing dollar Taiwan has made the hedge and cost so expensive. And now when we look at the NDF, say three months or one month NDF, the implied annualized hatching cost is double digit over ten percent. That's crazy. So you pay ten percent to hash an appreciation and as you suspension, it's not easy to have a ten percent appreciation, So it's that expensive. So what happened at least hearing from market people, some people hash
it through the current one. And also going forward, we may look at other Asian currencies. A lot of the Asian currencies will be looked in to be used as a proxy to hatch. So oh in all, the end game is pretty straforred. We're going to see stronger Asian currencies as a whole against the US dollar.
And do you think what happened to the Taiwan dollar that rapid appreciation, do you think that could be a precursor. Could this happen again to other currencies.
It's going to be a precursor. Actually, what makes things interesting is now it had the Taiwanese authorities attention, so they're going to stop that from happening again, at least in the near term. So everybody, whether it's on shore Taiwanese players or even offshore players betting them to go for more hedging. We will look for other Asian currencies.
The Korean one is one of the obvious one that people like because of course we have the news about US and South Korea talking about ethics during the trade negotiation. So even from that perspective, the kourent one could have some room for appreciation, and both economies export a lot of tech products. We know about the smartphones, we know about other semiconductors, so therefore kourent one is really one of the no brainer as a proxy hetch. We also
had a look at other currencies. We go through the correlation some of the interesting ones, including the taigbart and the Malaysian ring its, so we'll look after those currencies as well.
Okay, and what about the japan currency the yen. Now I noticed like Japan CPI rose by I think over three point five percent in April, and I saw the headline news it was highest amongst G seven countries. This is quite unbelievable. See inflation's returning back to Japan. What does this mean for the currency.
To be honest, this is just a continuation of what has happened over the last two years ore and a half years. So Japan inflation, as you have mentioned, if you look at it, say the headline inflation or the core inflation, both of them on a year and year basis, remains about three percent. And even the so called core inflation, which is inflation excluding food and energy prices, it's also about two percent. So we talk about the last decades, we talk about Japan in deflation mode for many decades.
Now they're getting two to three percent inflation. So now is the best window for them to normalize policy, which is why we think they're going to keep hiking rates at least till policy rates reach one percent. And more importantly, they're going to keep doing quilty so quantitative tightening by slowing their purchase of the jgbs. We know jgb's have been a hot topic these days because of the yields, especially in the longer end yells has risen quite a lot.
But if you look at what the Bank of Japan has said, not the government, the Bank of Japan, they are not really concerned. They said they will keep doing QT, maybe with a little bit of a tweak, but the direction will be the same. That tells you how committed they are in terms of walking away from the JGB market, because one problem or one development over the decades is that BOJ now owns over half of the JGB market
and going forward that's not healthy. If they want to have a healthier private investor driven JGB market, kind of like the US Treasury, then they will have to lower their dominance in the JGB market. And now, as we said, it's really the best window for them to normalize.
So you see higher JGB yields going forward.
Higher, so even steeper curve bear stripening we think is going to be the normal.
Okay, now, Stephen, you're one of our most popular analysts that Bloomberg Intelligence. You always have been, but recently, you know, there's been even more interesting in e fics currencies. You and I have been on overseas trips recently. What are clients worried about right now.
Well, kind of like what you ask about the Taiwan dollar. Well, of course we talk to Taiwanese clients. We talked too many clients, and most of them they're concerned about a very strong local currency. Because we mentioned about exporters in particular, and livers and a lot of the other investors, they have a lot of dollar exposure, whether their trades are denominated in the dollars or they have a lot of dollar assets. So now we're really talking about US crisis
in the making in terms of dollar assets. When we talk about the Asian financial crisis many many years ago, it's always about dollar liabilities because of FX mismatch. The risk was on the Asian economies back then, But now the risk really lies with the US because it's a dollar asset crisis. And yeah, as you said, we have a lot of questions this year, and that's why we are cading it, at least internally the year of the EFFCS.
Of course, we know EFX matters every day every year, but going forward for the next year, for the next few years, in the next decade, we think effects will be increasingly important given what happened to the US dollar, and.
This is particularly worrisome for a lot of especially North Asian companies and countries, because they rely on exports.
Yes, I mean like because we are really one of the major funders of the US deficit over the years. Of course, novice Asian economies especially has been accused of undervaluing their currency, which is why the US administration always goes after say South Korea for example. But however, the fact is that we do fund their deficit. So at the end of the day, we are the savers with
the current accountcor plus player. So now the risk is really on us to sort of manage a soft lending so to speak, for this dollar weakness.
Okay, so Stephen, before I let you go, like you've already sort of hinted about some of these currencies. But in your story of Asian currencies appreciating, do you have like one of two favorites of the next say, six to twelve months.
Yeah, if you ask me, Because the largest risk of appreciation that the central bank will find it hard to oppose, it's really Taiwan. So if you ask me, twan dollar will always be there in your little bit of course, one reason being like in my view, it's not going to operate from over the next three to foremanths is that central banks will try their best to control to contain the appreciation, so therefore the proxy currencies will be
my favorite. I mentioned a little bit earlier, so South Koreina one type out and Malaysian ring kits are probably the ones that I like the most, being a Talwan dollar proxy and also from their own perspective, we think they could appreciate as well.
Steven, I think that's a great way to finish the show. Thanks again for coming on the Asia Centric Podcast.
Thanks for having me.
You've been listening to the Asia Centric Podcast from Bloomberg Intelligence. I'm John Lee in Hong Kong. You can find all our episodes on Apple Podcasts, Spotify or where you listen and this podcast was also produced and edited by Clara Chen. Thanks for listening and see you next week.