Investors Sidestep the Dollar as US Election Looms

As uncertainty looms over the upcoming US elections, investors are increasingly favoring trades that circumvent the US dollar, the world’s primary reserve currency. This trend has emerged from a cautious stance regarding the dollar's outlook, prompting market participants to explore cross-currency trades that are less influenced by Federal Reserve policy and electoral outcomes.

Recent activity includes shorting the Swiss franc against the Japanese yen and buying the British pound versus the New Zealand dollar. According to Elsa Lignos, global head of FX strategy at RBC Capital Markets, "Investors are trying to stay clear of the dollar and take more cross-currency exposure" due to the uncertain election results, making it challenging to forecast currency movements accurately.

This shift represents a unique scenario in the foreign-exchange market, where the dollar typically dominates, accounting for about 88% of all trades in the $7.5 trillion-a-day market, as reported by the Bank for International Settlements. However, with the Federal Reserve contemplating how rapidly to cut interest rates and the elections approaching, many traders prefer not to take strong positions on the dollar.

Long-Term Dollar Positioning Remains Neutral

Long-term investors have adopted a neutral stance on USD holdings, the most neutral in the past 2.5 years, according to State Street Global Markets. Notable financial institutions like Wells Fargo, RBC, Allspring Global Investments, and State Street Global Advisors are refraining from making significant dollar bets until the political landscape becomes clearer.

While speculative players have added to bets against the dollar recently, their positioning is not as extreme as earlier in the month. Instead, there is a growing interest in cross-currency pairs. For instance, RBC recommends shorting the franc against the yen, while Allspring anticipates the euro weakening against the Norwegian krone.

Political Uncertainty Influences Currency Moves

With Vice President Kamala Harris narrowly leading Donald Trump in the polls, confidence regarding the election’s impact on the dollar has diminished. Investment strategies are waiting for clarity on the elections, with many suggesting to "get through that growth uncertainty" before making decisive moves on the dollar.

The outlook for Federal Reserve policy remains another source of uncertainty. Bloomberg's dollar index has declined approximately 3% since August, following one of the weakest non-farm payroll prints since the pandemic. Investors are now keenly anticipating upcoming job data to provide insight into the Fed's potential next steps.

Market analysts from JPMorgan and Nomura have opted for a cautious approach, keeping overall dollar exposure light until more concrete labor-market data becomes available. Nomura, in particular, expects currencies like the sterling and Australian dollar to appreciate against the New Zealand dollar instead of the US dollar, as they believe market expectations regarding Fed easing may be overstated.

Conclusion: The Path Ahead for the Dollar

With the election risk intensifying, many traders are opting to avoid large bets on the dollar, although demand for the currency remains strong for longer-term positions due to its haven status. As the political climate evolves, market positioning is expected to shift further, particularly as the election approaches and macroeconomic conditions unfold.

The prevailing sentiment indicates that while there is a modestly bearish outlook for the dollar over the next month, traders are wary of the political landscape's volatility and are seeking to navigate these turbulent waters by avoiding direct exposure to the US dollar.