The Father of the 'Dollar Smile Curve': The Downtrend of the New Dollar Cycle Has Begun, and the Market is 'Unprepared' for Trump's Implicit Devaluation

Stephen Jen, the proponent of the "Dollar Smile Theory," warns that a new round of decline for the dollar may have begun, and the market is unprepared for it. The founder of Eurizon SLJ Capital and former foreign exchange strategist at Morgan Stanley stated that the Trump administration is seeking an exchange rate level favorable to U.S. exporters, marking a new phase of dollar depreciation.

According to Bloomberg, Trump stated on Tuesday that he does not believe the dollar is excessively weak, a remark that triggered the largest single-day drop for the dollar since the imposition of tariffs last year. The Bloomberg Dollar Index fell by as much as 1.2%, reaching its lowest level in nearly four years. Trump told reporters in Iowa that the recent decline of the dollar is good for American businesses, a statement that caused significant volatility in the foreign exchange market later on Tuesday.

The sharp decline of the dollar has pushed the euro and the pound to their strongest levels since 2021, while the Swiss franc reached its highest level since 2015. In the Asian market, the South Korean won and the Malaysian ringgit led the gains. Gold prices surged to around $5,300 per ounce.

Market participants believe that Trump's acceptance of a weaker dollar may signal overseas investors to sell dollars and accelerate the "quiet withdrawal" from U.S. assets. This is a further blow to overseas holders of U.S. assets following tariff threats, attacks on the independence of the Federal Reserve, and unpredictable policy-making.

Analysts Warn: Market Unprepared

Stephen Jen pointed out that an entire generation of foreign exchange analysts has become accustomed to a strong dollar and a robust U.S. economy, and they are unable to handle a scenario where the dollar weakens while the U.S. economy remains strong. "This is likely just the beginning of the next round of dollar decline, and many may be unprepared for it," he said.

Anthony Doyle, chief investment strategist at Pinnacle Investment Management, stated that when those who could support the dollar appear indifferent, people will feel that the dollar's support is weakening. "The market is re-examining a question: Is the U.S. asking investors to accept lower stability standards, thereby demanding a higher risk premium?" he said.

Market Indicators Show Growing Concerns About Depreciation

At least one market indicator suggests that concerns about the dollar's long-term depreciation are increasing. According to an index from JPMorgan, the risk reversal indicator for the dollar against major currencies fell to its lowest level since June on Tuesday, indicating a rising demand among investors in the options market to hedge against the risk of a weaker dollar.

Another indicator shows that the dollar is still overvalued. Data from the Organization for Economic Cooperation and Development indicates that based on purchasing power parity benchmarks, the dollar is overvalued against all G-10 currencies except the Swiss franc. This indicator shows that the yen and euro are particularly undervalued, supporting the claim that European and Japanese exporters have an unfair advantage.

Divergent Market Views

Not everyone believes that Trump's remarks signal a long-term decline for the dollar. Rodrigo Catril, a foreign exchange strategist at the National Australia Bank, stated that Trump's comments indicate that the U.S. government does not oppose the recent decline of the dollar, and more importantly, hopes to see currencies like the renminbi and yen appreciate "I don't think the president wants to trigger a generational shift in the dollar, but the uncertainty in the dollar's trajectory has increased another layer," he said.

Robert Kaplan, Vice Chairman of Goldman Sachs Group, warned that a continued weakening of the dollar could pose numerous risks to the U.S. economy. A weaker dollar does indeed promote exports. However, the U.S. currently has a debt level of $39 trillion and is heading towards over $40 trillion. When the debt is so large, I believe monetary stability may be more important than exports," he said in an interview with Bloomberg Television. "I actually think the U.S. wants to see a stable dollar and a stable economy. They want to be able to sell long-term government bonds: a stable dollar would be beneficial," he said.

Risk Warning and Disclaimer

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