The dilapidated dollar
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Pushkin. The dollar is having a pretty bad start to the year. The worst start to any year, in fact, since 1973. A sufficiently distant point in ancient geological history that even I was not around.

Now, this was not the plan. All the big banks and investors were saying that 2025 was going to be a biggie for the buck. Just watch it fly higher based on that old chestnut American exceptionalism. Now, if you listen regularly to this show, you'll know that has not quite worked out.

A weak currency is not necessarily a bad thing. Winners and losers, swings and roundabouts and all that. But today on the show, we're going to unpick for you what is going on here and why do we care? And also, hey, we're the FT. We're also going to talk a little bit about the UK. We have a tearful chancellor, that's the finance minister, and a tax and spend agenda that it is politely in a bit of a mess.

This is Unhedged, the markets and finance podcast from the Financial Times and Pushkin. I'm Katie Martin, a markets columnist at the FT in tearful, worn-out London. And I have a special guest today, Ian Smith, our senior markets reporter, the hardest-working man at the FT, just about keeping pace with all this and managing not to cry, not in front of me anyway.

I'll keep my tears private. Yeah. We'll talk more about crying later, listeners. But welcome back. Thank you for having me. Last time you were on this podcast, you were talking about lovely butterflies. And you still had me back. And we still had you back. You didn't go on our list of people who are never coming on ever again. Okay. I was wondering. So, Ian, you wrote a big story the other day about this horrible start to the year for the dollar. How horrible is it?

Pretty horrible. It's been a stunning turnaround in the dollar this year. Coming into the year, people thought that Donald Trump's trade war would strengthen the dollar, maybe fuel inflation and thus strengthen the dollar. And instead, what we've seen is a dramatic weakening in the dollar. The dollar index, which measures it against a basket of currencies, including the pound and the euro and the yen, falling 10%. And you've seen this massive rally in the euro, in particular, up nearly 14% against the greenback. Hot.

I don't know whether listeners might think that sounds like a lot, but that is quite a lot for a really big currency like the dollar to fall 10% over the course of six months. That's a pretty chunky move. And actually, like currencies markets have been sort of asleep for quite a long time. And now they've kind of woken up and they've decided they don't like the dollar. As you say, one of the reasons for that is that everyone thought, OK, you slap tariffs on things, then inflation goes up.

And when inflation goes up, interest rates go higher and then that pulls the currency up with it. But that's not happened because instead investors are saying, first of all, I can't really see this inflation that you guys are talking about. Second of all, this feels bad for growth, which will have the opposite effect on interest rates and therefore on the currency. So it's kind of interesting in and of itself, to me anyway, that...

We're really bad at understanding tariffs and what their macroeconomic impact is. Yes, and we're seeing that play out before us. And I suppose that then feeds into interest rate expectations, which are crucial to where currencies go and how they strengthen and weaken. And at the beginning of the year, hardly any cuts were priced in. Interest rate cuts were priced in by the US Federal Reserve. But now over the next 12 months, even after good job numbers, this week, you've got four quarter point cuts that are priced in by around this time next year. So...

The market has moved to anticipate a weaker US economy than it had thought and greater interest rate cuts than it had thought. And all that helps to push the dollar down. Meanwhile, and I keep beating up that massive man Rob Armstrong about this, there is this big reappraisal going on in heavyweight economic and investment circles about

do we still trust the dollar? Do we still think the dollar is going to go up in times of stress? Do we still think this is going to be a reserve currency, which is kind of shorthand for a currency that lots of central banks around the world want to hold for a rainy day in case there's some sort of emergency? All of a sudden, because of this kind of slightly chaotic Trump administration economic policy, people are saying,

Yeah, no, maybe we don't quite trust the dollar in the way that we previously did. So there's a parallel conversation going on here to say, you know, lots of conservative...

Say it very quietly, but quite boring. Investors are saying, maybe I need other currencies as well or instead. That's a big factor as well here, right? It's a huge factor. You and I talk on an almost daily basis to investors that are reassessing their dollar exposure. They're either hedging US stock positions where they weren't hedging them before, or they are considering reducing their allocation to US assets, be that stocks or bonds. So there's definitely that reappraisal which is hedging

helping to push the dollar lower. I think currency sometimes are the purest expression of how the market views the prospects of an economy, right? Whereas blue chip stock indexes can just reflect your near-term prospects for a small group of companies, whereas a currency tells you many more things. So it tells you about that maybe weaker economy than people had anticipated, but it also tells you about investors' worries on US institutional strength

Some of those concerns you've talked about on the show around Federal Reserve independence. Yeah, all that stuff. Yeah, so it's kind of the punching bag. The dollar has been the punching bag this year for those various worries that people have. And another is obviously, and this is very timely this week, the mounting sovereign debt.

Yeah, let's get on to debt in a minute. But I want to rewind a tiny bit to the H word hedging, right? This is coming up in every conversation that you and I have with asset managers at the moment. What this means is in the past, say you're an investor, you're based in the UK, you're based in the Eurozone, whatever, forever.

For like a decade and a half, you've been buying U.S. stocks and they've done great on two levels. First of all, the stocks have just gone up a lot because the U.S. is dead good at technology. And then on top of that, the dollar is just gradually over that period of time until very recently been sort of wafting higher. And so if you're an overseas investor, you win twice. You win because the stocks go up.

And you win because the currency goes up. And then you put the money back into US stocks. Yeah. And keep your unhedged stock bet going. Happy days. Unhedged podcast by name, unhedged podcast by nature.

People are now deciding that they need to be hedged. Maybe we should change the name of this podcast to The Hedge Podcast. But what that means is if you're still going to buy US stocks, for example, and you're not based in the US, you're not based in dollars, you hedge out the currency risk. So you buy derivatives or you buy other currencies that mean that you're cushioned so that if the currency keeps falling, you don't necessarily take such a big hit off it. Now, the irony of currency hedging is

is that if you're hedging against a currency risk, you're fundamentally selling that currency earlier rather than later. So the more hedging you get, the more dollar weakness you get. And that sort of snowball effect is to an extent what we're starting to see and why the dollar has been falling lately. But like currency hedging is such a big issue for investors now. It's massive. It's massive.

I think it's both that investors are saying, well, that virtuous cycle of US assets rising and the dollar rising, which was helping me, isn't working. But it's also that during this time of kind of global trade tensions and stress, there's

The dollar has not also provided that counterweight that it has when you had that unhedged position that it has in times past. So I think there's two good reasons why investors are saying now perhaps I need to hedge. But you're right, the hedging activity itself is putting pressure on the dollar. And it's interesting the ways that investors are looking to go around hedging. Yeah. So you and I were in a quarter.

hosted by Barclays, the bank, the other day. And we were talking about currency hedging because, as I say, everyone's talking about currency hedging. And we're boring. And we're quite boring like that, yeah. And they were saying that for a lot of investors around the world, they think, huh,

I want to hedge out my dollar risk, but say I'm in like a small country, like maybe one of the Nordic countries that has like the Norwegian kronor or the Swedish kronor, or maybe you're in an Asian country that doesn't have a particularly liquid currency. So,

Actually, hedging out dollar risk against your own currency can be like a bit of a pain and quite expensive and not that easy to do. So what a lot of investors around the world are doing is saying, OK, I'm not going to hedge out my Swedish krona risk or I'm not going to hedge out my Korean won risk. I'm just going to buy euros instead to provide that counterbalance.

That, I think, is really quite interesting and goes a long way to explaining why the euro is up like 14% against the dollar so far this year, whereas the dollar measured against a basket of currencies writ large is...

That's more like 10%, isn't it? Yeah, and that's really interesting. And it's partly then a bet on the euro and that European revival that we've talked about as well. You've got some exposure to that there. But yeah, that third currency hedging is such an interesting trend. And what we're actually seeing is the policymakers at the European Central Bank becoming quite...

more anxious or at least watching closely this rapid appreciation in the euro, which if it continues, will start to push prices down across the eurozone. And that's an interesting one where the ECB has been

you know, supported this new global role for the Euro. Christine Lagarde has talked about that and that it can provide more of a rival to the dollar. She's the president at the ECB and she's talked about this global Euro moment. And everyone in Europe is like on board with this global Euro moment thing. We were talking about that, Rob and I, in the last podcast.

The problem with that is that you do have a stronger euro. Now, are we at the point where the European Central Bank really gets its knickers in a twist about the level of the euro? I think no. We're at $1.17. I'm old enough to remember where $1.30 was a pretty normal level for the euro to be trading at. So I don't think they're like alarm bells just yet. But as you say...

The stronger the euro gets, the cheaper imports into the eurozone become. And possibly that ends up being a weight on inflation and starts becoming a disinflationary force. And we're seeing that already in Switzerland where it's pushing through deflationary forces there and you've had that dramatic shift.

appreciation of the Swiss franc is a very similar dynamic. In the euro area, you already have exporters that are kind of like facing the hit from that. Their goods becoming less competitive. So I think the sharpness of the appreciation is going to be key from here. Yeah, it might not get to the level that it's been in recent years. But if it's very sharp, then that could create more of an issue for policymakers. I think it's one that just like you say, they're just watching at the moment.

But given those wider forces we're talking about and people's greater use of the euro dollar as an avenue to hedge, it would be interesting if we see much greater euro appreciation or faster that creates more of a problem. Yeah, European Central Bank might come under pressure to cut interest rates just to try...

and weaken the currency. Not a conversation that they're having today, but watch out for it. Now, looming over all of this is Donald Trump's one big beautiful bill, which is a long way through the process to become one big beautiful act and actually happening, this big package of

This involves, I can't even remember the numbers, but it involves like much wider deficits. It involves lots and lots of borrowing in the government bond markets. How does this plug into how the dollar performs? I think this is one of those worries that has been weighing on the dollar. And you've had those periods where treasuries and the dollar have sold off at the same time. Yeah. Which we're familiar. US government bonds and the dollar, they sort of normally go in opposite directions, but you know.

But sometimes they don't. And we know that in the UK because it happens about every six months. Yes, yes. And we have bouts of this. So, yeah, the big, beautiful bill, I think it's estimated it will add about $3 trillion to the US national debt over the next decade. Significant rise in...

debt. To a degree, this is something that investors generally haven't had to worry about. Sovereign debt has been rising for a long time. The US, because of the status of the dollar and the status of treasuries as the reliable kind of world currency and world reserve asset held by those central banks you mentioned, is

Because there's vast appetite and there always has been for those things, the US has been able to borrow more freely than other countries. The worry is that if you get a situation where the US is both borrowing much more from international investors...

at a moment at which those investors are saying, well, I'm slightly more concerned about the path of US policymaking and the dollar and monetary policy credibility that you could have that kind of toxic mix. We love to describe a toxic mix in a newspaper. Love a toxic mix. But you might have that toxic mix where... It's a toxic cocktail. It might be a toxic cocktail on a bed of nitroglycerin, perhaps. And it's going to go down badly. Cheers. Cheers.

Nice. Laying on the puns and the cheese right here. Now then, the dollar has been doing sufficiently badly this year that lots of other currencies have been rising against it, including even, oh, small bean, little British pound, which is not necessarily over the years been the world's most popular major currency.

But sterling is up by about 9% so far this year against the dollar to $1.36 until drumroll this week. Oh, unpleasant scenes. Tell the world about the unpleasant scenes. So what we've had are mounting concerns in the UK that some of the things that our UK finance minister, the chancellor, was going to do to balance the books...

Mm.

And the pressure around this really told on Wednesday when the Prime Minister in the House of Commons, the UK Parliament, refused to give a really full-throated commitment to the Chancellor's position for the foreseeable future, a kind of step back of a full commitment. And that

really worried investors about the future of this Chancellor and whether she might be replaced by someone less committed to her fiscal rules or who might change her fiscal rules and then that would lead to more borrowing. And this was very dramatic in how it played out in the House of Commons because, as everyone will have seen, the Chancellor was, you know, in tears on the benches. So Rachel Reeves was sort of sitting just behind Keir Starmer, the Prime Minister, and...

And we don't know exactly why she was crying. We don't know exactly why she was upset, but she looked very tired and she's had a really difficult job trying to get this welfare package through Parliament. And bad news from the Office for Budget Responsibility the previous day, which portended kind of worse figures when the budget comes. So high, high stress moment. High, high stress. The stress is clearly telling on her and there were tears rolling down her face.

It was quite unpleasant to watch. I think, you know, it takes a cold, dark heart not to feel at least a tiny bit. Sorry for Rachel Reeves here. But the problem was that as the tears were rolling down her face, Sterling started rolling down the hill too. So Sterling was weakening and UK government bonds started weakening too.

And it all looked like a very unpleasant situation. And actually, the weakening in UK government bonds was fairly big. It was not trivial. So suddenly the world starts saying, oh, look, it's another Liz Truss moment. The government has blown up the bond market again.

For the record, that is not the case. No. This was not as dramatic. It was not as serious. And, you know, Rachel Reeves has got pressure from two directions, right? So if the US does manage to blow up its bond market and jack up US borrowing costs, then that will pull up UK borrowing costs with it. But also the domestic political picture is incredibly awkward. I mean, if US listeners, if you can imagine Scott Besant saying,

gently weeping while his boss is standing in front of him talking about the one big beautiful bill. That's what we've had over here. It was really, really unpleasant to watch. But... And she doesn't have many good options from here. The viewer, I spoke to many investors over the past couple of days...

They don't think they can cut spending more without really hurting the economy. The broad expectation is for some kind of tax rises, but that's politically difficult. But what happens in the US, as you say, is going to be really key. The other scenario is, from the one you lay out, is that perhaps

US treasuries rally over the coming months. We do get some of those interest rate cuts. The economy has weakened to allow for those cuts. Maybe the US gets us out of a hole. The US treasury yields come down, its borrowing costs come down, and as they tend to do, they move in lockstep often, pull UK borrowing costs down with them,

and give the Chancellor a bit more room ahead of the budget. I'm sure that's what they're hoping, that we can just keep the show on the road, hope that we get a fair wind from the US. But what we've learned from recent months is that we don't always get that fair wind. And sometimes we become, I think you've put it in your columns in the past, the ugliest horse in the glue factory when people get worried about sovereign debt. Yeah, we like to end these discussions on a really stupid question that gives you the ability to look stupid in future. So would you rule out...

a Liz Truss style guilt market crisis over the course of this year? This is like a career ending question. Yes, that's why I asked it in. I better look for something else to do. Yes, you know, I started out writing about pension funds. The leverage that pension funds were running in their liability driven investment strategies that helped to create that for selling that we saw in 2022, there have been reforms.

Since regulatory changes that force them to reduce their leverage, people are in the market. We've reported that BlackRock, Fidelity International, Schroders bought UK government bonds as they were selling on the cheap. So you've got what everyone says is an orderly market. It didn't get as bad. So, you know, I suppose maybe I hope more than a bet that it is a different situation where the market is.

broadly expect that the bond market will enforce discipline. So it might be more one of those markets where you understand it as a bond market enforcing discipline on a government to kind of keep to its own rules. So no crisis, says Ian. I'm minded to agree with you, but I do think yesterday was quite an unpleasant reminder of, again, just how little wiggle room Rachel Reeves has.

Speaking of limited wiggle room, we have very limited wiggle room ourselves, so we are going to be back in just one sec with Longshot.

Probably the most pressing concern that I see with regards to the investable quality of our industry is that it's so, so tied to fuel price. So you'll see that as fuel prices rise, our stocks go down and vice versa. It's just very difficult for people to manage through. But we have seen sustained periods of growth over the last decade, and a few of the airlines have done very well. To learn more about the evolution and investment opportunities of the airline industry, subscribe to PGM's The Outthinking Investor.

Half performance is not a guarantee of future results. Okie doke, it is time for Long Short, that part of the show where we go long, a thing we love, or short, a thing we hate. Ian, like I say, last time you were long butterflies, which was a very beautiful moment on the Unhedged podcast. What have you got today? So, last time butterflies, this time forensic accountants. LAUGHTER

Yeah? Why are you long forensic accountants? I'm putting a long-term bear, very long-term, on forensic accountancy. Because, as you've...

Because I think that this trend that we've seen, you've talked about your video with strategy of companies buying Bitcoin, adding it to their holdings, changing their nature is going to create a long term accounting mess. And then we're going to need forensic accountants to come in and help tidy this up. Boom time for forensic accountants and lawyers.

Certainly. I am long, and I've only just been informed of this, but I love it very much, the news that Bill Ackman, the billionaire hedge fund politics botherer in New York, wants a national tennis ranking. So he's 59 years old and he wants to get on the kind of competitive list of proper tennis players in the US. Is there anything this man could not do, Ian? No.

No. Not as far as he's concerned. Certainly not. Yeah. What do you think, foot fault or? I don't know. But I love this effort and ideally I want to see video. Ideally the shorts are tight. The shorts are very tight. The racket is wooden. What I would say is that this does feel like that thing where, you know, something like 20% of men think they could beat Serena Williams in a match of tennis. Of course. LAUGHTER

But isn't it just get one point off her? Yeah. It's just get one point. It feels a bit like that. I am long. I love this very much. Listeners, what crazy sporting endeavours are you going to be undertaking on hedge.ft.com? Let us know. In the meantime, we'll be back in your ears on Tuesday. So stay unemotional and listen up then.

Unhedged is produced by Jake Harper and edited by Brian Erstad. Our executive producer is Jacob Goldstein. We had additional help from Topher Forges. Cheryl Brumley is the FT's global head of audio. Special thanks to Laura Clark, Alistair Mackey, Greta Cohn and Natalie Sadler. FT Premium subscribers can get the Unhedged newsletter for free. A 30-day free trial is available to everyone else. Just go to ft.com slash unhedged offer. I'm Katie Martin. Thanks for listening.