Dollar Off To Best Start To A Year Since 2005

The U.S. Dollar Index peaked in fall 2022, the highest it had been in nearly two decades, rising in response to aggressive interest rate hikes.

The index measures the value of the U.S. dollar against a basket of major currencies from six countries.

A gain indicates the dollar is appreciating against the basket and vice-versa.

The euro is the biggest component on the index and thus sways the index value and return.

In 2023, the U.S. Dollar Index declined from its highs while still maintaining a fairly elevated level as interest rates have stayed steady.

By far, the best performing major currency of 2023 was the Mexican peso, which appreciated nearly 15% against the dollar.

The peso appreciated significantly thanks to aggressive interest rate hikes by its central bank (currently at 11.25%) which pulls money into the country as investors chase better returns.

However, the peso’s continued appreciation could negatively impact the competitiveness of Mexico’s exports. In tandem, Asian imports to the country become cheaper which can hurt the country’s domestic industrial sector.

From across the Atlantic, the Swiss franc, British pound, and euro all gained as well.

Meanwhile, the Japanese yen, while down 7% for 2023 has a much stronger outlook for 2024, with the Bank of Japan likely to raise rates to curb inflation, strengthening the currency.

At the bottom of the list, the Russian ruble and Turkish lira lost nearly one-fifth, and one-third of their value against the dollar, respectively.

The lira has been declining steadily for over a decade now (down 94%) as the country has witnessed several political upheavals that have shaken the economy as well as investor sentiment.

Meanwhile Russia’s economy relies heavily on fossil fuel exports, a sector hit hard by Western sanctions. With fewer buyers for its oil and gas, export revenue has declined, reducing the country’s trade surplus.

In the graphic below, Visual Capitalist's Marcus Lu visualizes the returns of 12 currencies against the U.S. dollar in 2023, using data from TradingView.

However, in the first few days of 2024, the dollar index has ripped higher, erasing over half of 2023's losses.

The Dollar index is up five straight days (its longest streak of gains since September)...

This is the best start to a year for the dollar since 2005... (but we note that the dollar appears to be bid at the start of almost every year)

The question is - can it sustain the gains.

Given the strength of the Euro to the USDollar (which, as we noted above constitutes a large part of the dollar index basket) relative to EU and US rate-differentials, the dollar gains could continue here as EURUSD slides (even with a dovish Fed).

The Fed and The ECB battle this year will be an interesting one