Pandemic contributing to U.S. dollar weakness

The U.S. dollar remains the global reserve currency, but a combination of factors exacerbated by the Covid-19 pandemic is testing the greenback’s dominance, CIBC’s Luc de la Durantaye says.

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The safe-haven currency soared in March when markets tanked, but this week the U.S. Dollar Currency index was down more than 3% for the year.

An interest rate advantage propped up the U.S. dollar, said de la Durantaye, chief investment strategist and chief investment officer with CIBC Asset Management. But that advantage disappeared in March when the Federal Reserve slashed rates to near zero, matching those of most G7 countries.

The pandemic has also contributed to an expanding budget deficit, which puts downward pressure on the currency, he said. The U.S. budget deficit hit an all-time high of $3.1 trillion in the 2020 budget year that ended on Sept. 30, more than double the previous record.

De la Durantaye also noted a shift away from global use of the dollar.

“The U.S. dollar remains a large and what we call a reserve currency, but the use of the U.S. dollar is in constant decline and will, in our view, continue to decline,” he said. The government’s use of the dollar to impose sanctions on countries, including Russia and Iran, has contributed to the shift.

The result, de la Durantaye said, is that the U.S. dollar is among the most overvalued currencies in the 35-country universe he follows, and he expects this weakness to continue over the longer term.

“We would recommend to Canadian investors to look thoroughly at their U.S. dollar exposure and to make sure that they’re comfortable with the amount … they have in their portfolio,” he said.

The loonie is facing challenges tied to the oil industry but should benefit from the global economic recovery in the year ahead. The Canadian dollar was trading at around US$0.76 this week; de la Durantaye said that could rise to around US$0.78 in the shorter term, with a longer-term target of US$0.80 “not impossible.”

He said Canadian investors can look to higher-quality emerging markets for appreciating currencies.

“Asia has managed the pandemic much better than Europe or North America,” de la Durantaye said. “They’re coming out of it stronger and they boast higher interest rates and better cyclical growth outlooks, so exposure to some of the Asian currencies would be probably profitable.”

These include the Chinese renminbi, the Indian rupee and the Indonesian rupiah, he said.

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