History doesn’t always repeat but it often rhymes. I have a high conviction view the US dollar is now in a long-term secular bear market that could endure for years, similar to other cycles such as between 2000 and 2012. During the last great secular bear market cycle in the greenback, a number of events occurred, but are well worth revisiting given much is repeating today in the present cycle…

Looking back to the future…

Firstly, the dollar bear market kicked off in 2000 with the bursting of the Tech Bubble which was the catalyst for a shift in global capital flows. The bursting of the tech bubble around 2000 marked a pivotal shift also in commodities and emerging markets, which were very depressed at the time (gold traded at $250/$300oz). China also appeared on the stage as one of the fastest-growing emerging markets, which attracted capital away from the US dollar and US assets.

During the early 2000s, there was increased investor demand for foreign risky assets, including those in emerging markets, which contributed to dollar depreciation in that period. Today, China is more developed as an economy but still recognised as an emerging market. Stock market valuation is also skewed to historically depressed levels, which could set off a multiyear bull market boosted by dollar weakness (our base case). 

Secondly, trade deficits and capital flows dominated FX markets and contributed to dollar weakness. The US ran large trade deficits, which were financed by inflows of foreign savings, particularly from East Asia and the Middle East. This inflow of capital helped fund the US housing bubble but also contributed to a weaker dollar as capital flowed abroad and into risky assets. The trade deficit increased significantly from less than 1% of GDP in the early 1990s to 6% by 2006, reflecting the growing imbalance that pressured the dollar downward. Today, the US is running a budget deficit that is 7% of GDP, so metrics are similar to the mid-2000s.

Thirdly, during the financial crisis and government policy responses, the GFC initially caused a flight to US safe assets, strengthening the dollar temporarily. However, as the crisis subsided, demand shifted away from the dollar once again, leading to depreciation. Policy responses involving reduced government spending and lower interest rates, aimed at managing unsustainable debt and stimulating the economy, historically have weakened the dollar, contributing to its decline during this period. Today, Trump Administration policies to reduce government spending which have merit (and are ambitious) may not succeed. This is occurring at the same time as isolationist trade barriers are pushing the rest of the world away from the US and damaging global appetite for American assets. Tax cuts could widen and further deteriorate the US fiscal position.  

Fourthly, changes in global investor behaviour and savings patterns added downward pressure to the US dollar. Before the crisis, Europe had high savings relative to issuances (similar to China today), increasing demand for euro-denominated debt and thus weakening the dollar relative to the euro. Post the GFC crisis European sovereign debt issues further influenced dollar weakness. Today, confidence in the US has been disrupted. Additionally, Europe is increasingly going to have to rely on itself militarily. This will have profound implications for European bonds which will shift demand away from US treasuries (and the dollar). China is also bound to recycle its trade surpluses into assets other than US T bonds.

Finally, emerging markets and commodities entered a boom. I see this playing out again in the current cycle. The dollar’s decline coincided with a boom in emerging markets and commodities, which are positively correlated to a weaker dollar. Emerging equity markets performed well as the dollar weakened between 2000 and 2012. I expect this cycle to repeat in the year ahead, and for the boom in emerging markets to be kicked off by a new bull market in China/Hong Kong stocks.

In summary, the US dollar’s decline from 2000 to 2012 was driven by the aftermath of the tech bubble burst, large trade deficits financed by foreign capital, shifts in investor preferences toward emerging markets, the global financial crisis and its monetary policy responses, and structural changes in global savings and debt patterns. These factors combined to reduce demand for the dollar and increase demand for foreign assets and commodities, leading to a notable depreciation of the US dollar during this period.

With the bond market managing to shrug off the downgrade, I need to emphasise that the secular bear cycle that I see playing out in US treasuries – could take years. There is unlikely to be a defining “Minsky moment” but rather a death by 1000 cuts. The dollar meanwhile reasserted on the downside, and a move below 100 could arrest the corrective selloff/consolidation in gold (which is working off overbought conditions).