Dollar Undervaluation Flags Downside Risks Amid US-China Tensions
The US dollar is currently undervalued against most of its G10 peers, according to MUFG's regression models. This implies that there are additional risk premiums priced into foreign exchange markets that are contributing to the dollar's underperformance. Some factors may be driving this undervaluation, including the possibility of a ceasefire deal in the Middle East and recent intervention by the US Treasury to strengthen the yen.
TMGM Analysis notes that the dollar's undervaluation is consistent across multiple regression models, suggesting that it is not just a one-off event. The analysis also highlights the potential impact of an undervalued yen on Asian currencies more broadly, with Scott Bessent citing concerns about the renminbi being undervalued.
The Wall Street Journal has reported that President Trump has spoken repeatedly to Fed Chair Warsh since he took over at the Fed, which may be contributing to uncertainty over the Fed's reaction function and keeping yields higher. This could lead to increased US dollar hedging by investors, which would be bad news for the dollar.