Is the Dollar King Again?
(For Now)

Recent events once again show how quickly geopolitical developments can shift. The latest escalation in the Middle East is a reminder that markets can react abruptly. Only a week ago, comments from the US President suggesting that the conflict could end “very soon” briefly supported risk assets and pushed Brent oil prices down towards USD 90. Since then, renewed strikes and the continued closure of the Strait of Hormuz, including attacks on commercial vessels, have pushed Brent above USD 100. Trump has also given the green light to more Russian oil exports, relaxing previous sanctions, just when the release of strategic oil reserves from several countries had little effect. 

Against this backdrop, we increased our US dollar exposure back to neutral last week, as the currency exposure in portfolios had become one-sided. This reduces the risk of performance drag if the dollar strengthens during periods of geopolitical stress, which is a common market pattern. If the dollar weakens, which is not our base case but is still possible, portfolios can still benefit from exposure to emerging market local currency debt and equities, which often gain when the dollar weakens. 

Importantly, while the dollar could strengthen over the next 3-6 months, as we’ve seen in past oil shocks, our long-term strategic view hasn’t changed. We still expect a weaker US dollar over the multi-year horizon, given market doubts on US Federal Reserve independence, high debt levels and some degree of ‘de-dollarisation’ as emerging markets move away from dollar-denominated assets such as US Treasuries and increase their gold reserves. For this reason, we’re continuing to hedge half of our US equity exposure, and all of US dollar fixed-income exposure apart from one emerging market debt position. This helps us navigate near-term uncertainty while staying aligned with long-term fundamentals. 

Last week’s economic data, including February’s US headline inflation of 2.4% (pre-war), came broadly as expected and did not move markets. Rising energy prices, however, have renewed inflation concerns and several European Central Bank (ECB) officials have shifted their tone. ECB President Christine Lagarde reiterated that the ECB will do “what is necessary” to avoid a repeat of the inflation surge of 2022 and 2023. ECB board member Isabel Schnabel highlighted that the next ECB staff projections, due this Thursday, will at least partly reflect the recent developments in the Middle East. Some ECB Governing Council members have even suggested that the next policy move could be a rate hike rather than a cut. 

Markets have reacted by pricing in the possibility of rate hikes later in the year. While we acknowledge this risk, we don’t think it’s the most likely outcome at this stage, unless the conflict isn’t going to be contained within a six-month timeframe, in which case it could have a more significant impact on inflation. The rise in inflation expectations has pushed bond yields higher. Ten-year Bund yields are approaching 3%, the highest level since October 2023. At this stage, we remain underweight bonds and keep a slight overweight in equities, supported by broad diversification and risk mitigators such as gold, broad commodities, inflation‑linked bonds and, where possible, ‘insurance’ instruments such as warrants, which appreciate when equities fall, mitigating the downside. 

This week brings several central bank meetings: the Fed meeting on Wednesday, followed by the ECB, Bank of England and Bank of Japan on Thursday. We don’t expect any policy changes at these meetings, given the uncertainty around energy markets and the evolution of the conflict. However, the market has reduced expectations for Fed cuts in 2026, with only one rate cut now priced in for this year. We still think two cuts are likely if the Iran conflict proves to be relatively short-lived. Beyond central bank meetings, the main driver of markets remains geopolitical developments, particularly around the Strait of Hormuz, and their effect on energy.