Morgan Stanley sounds the alarm: Fed rate cuts will severely impact the US dollar and could plummet by 9% in the next year.

Morgan Stanley has issued a warning about the outlook for the US dollar, predicting that as the Federal Reserve implements interest rate cuts, the US dollar will depreciate significantly in the next year. The bank expects the US dollar index to potentially plummet by 9%, possibly even dropping to levels unseen since the early days of the pandemic. As traders and analysts evaluate the disruptive trade policies of US President Donald Trump, Morgan Stanley's report has added to the doubts about the prospects for the US dollar. The bank's managing director Matthew Hornbach and other strategists pointed out in a recent report that the US dollar index is expected to fall by about 9%, reaching around 91 points by 2026. This forecast suggests that the downward trend of the US dollar will intensify further, with trade uncertainties continuing to put pressure on the US dollar. However, data from the Commodity Futures Trading Commission (CFTC) shows that bearish sentiment has not yet reached historical extreme levels, implying that the US dollar may weaken further in the future. Strategists noted that this change is being driven by the Federal Reserve's aggressive easing path. The market expects the Fed to cut interest rates by a cumulative 175 basis points by mid-2025, starting with an unexpected 50 basis point cut in September 2024, marking a sharp reversal from years of hawkish policies. Since reaching its peak in January, the US dollar index has dropped by nearly 10%. Trump's trade policies have weakened market confidence in US assets and sparked a reevaluation of global dependence on the US dollar. The depreciation of the US dollar has already reshaped the global currency flow landscape. As investors seek safe havens, safe-haven assets such as the euro, yen, and Swiss franc are favored. Strategists led by Meera Chandan of J.P. Morgan advised investors in May to maintain a bearish stance on the US dollar and instead recommend increasing holdings in the yen, euro, and Australian dollar. Morgan Stanley strategists pointed out that the biggest beneficiaries of the US dollar depreciation will be the euro, yen, and Swiss franc - currencies widely seen as global safe-haven counterparts to the US dollar. As the US dollar weakens, they expect the euro to USD exchange rate to rise from the current 1.13 to around 1.25 by 2026. Analysts stated that driven by "high arbitrage returns" and lower risks of UK trade tensions, the GBP/USD exchange rate could rise from 1.36 to 1.45. The yen, currently around 144 to the US dollar, could strengthen to around 130. Morgan Stanley also predicts that this will impact the bond market. With monetary policy easing, the yield on the 10-year US Treasury bond will fall again after reaching a peak of 4%. While lower rates may boost short-term GDP and slightly stimulate inflation, the bank warned that if the US dollar depreciation accelerates, it could lead to broader instability. The strategists wrote, "We believe that after two years of wide-ranging volatility, interest rates and currency markets have started a sustained major trend - the US dollar will depreciate significantly, and the yield curve will steepen significantly." Outside the US, other central banks are also taking swift action, with Canada cutting rates by 175 basis points, becoming one of the most proactive countries globally. As global currency dynamics shift, a weaker US dollar could lead to significant structural changes in global trade and capital markets.