Categories: Markets

JPMorgan Strategists Says Market Fails to Reflect Threats to Dollar Dominance

(Bloomberg) — Investors betting on the continued dominance of the dollar in the coming years are looking at the risks of rising U.S. political instability and growing tensions with China.

That’s the thinking of JPMorgan strategists who argue that markets are not fully reflecting the risk of a “rapid and deep” decline in the greenback’s status as the currency of choice for global reserves and trade – a process known as dedollarization. It also leaves the dollar expensive on a historical basis.

“If US-China tensions intensify and we get more global fragmentation, it could lead to the de-globalization of trade and finance,” said strategic partners Jan Loeys and Joyce Chang. “Financially, it could also lead to dedollarization.”

Chief among the factors that could threaten the long-term dominance of the dollar is the deterioration of US politics that could hinder efforts to manage the national debt, “preventing a government from stabilizing the economy during a crisis due to financial constraints,” wrote strategists at a report released on Tuesday.

Earlier this year, political brinkmanship threatened the world’s largest economy as politicians sparred over debt ceiling limits before reaching a last-minute resolution. It is a phenomenon that will become more common among the divided nation.

Another risk scenario outlined by strategists is the intensifying competition between the US and China, which they say could turn into “Cold War 2.0.” Inside China, a laundry list of economic reforms — from easing capital restrictions to promoting market liquidity — could also threaten the supremacy of the dollar, they added.

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According to JPMorgan, the impact of a shift away from the dollar and shocks to its stability will be felt across most asset classes, lowering the value of the greenback and equity multiples while boosting bond yields.

Meanwhile, the US currency is trading near historic highs on an inflation-adjusted basis through May, according to the latest data from the Bank of International Settlements. Notably, the data does not include the dollar’s sharp selloff in July, which saw a Bloomberg gauge of the greenback fall nearly 2% last week to an April 2022 low.

The chances of the dollar being replaced completely as the main reserve currency within the next 10 years are relatively low, strategists said. They see a “partial dedollarization” as more likely, with China – as the biggest competitor of the US and the dollar in the global economy – taking more and more of the role of the greenback in the non-US aligned ones. countries.

While the dominant reserve currency, the dollar’s share of international reserves fell from 73% in 2001 to 58% in 2022, as measured by data from the International Monetary Fund. However, the greenback’s allocation to sovereign wealth fund portfolios offset that decline.

For investors concerned about the loss of the greenback as well as the decline in mutual trust across national borders, JPMorgan recommends underweighting the dollar, US markets, financial stocks, and longs. -duration bonds in their portfolios. The bank also recommends betting on value-oriented US stocks, which are likely to “grow best in a trending real yield environment.”

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