Dollar Fails to Track Higher Treasury Yields as Foreign Demand Concerns Return

The mix of foreign flows into U.S. assets has also changed. Foreign fixed-income flows have become less important for the dollar than in the past. Meanwhile, unhedged inflows into U.S. equities helped support the currency even as Treasury exposure fell. Foreign holdings are now much more concentrated in U.S. stocks and credit than in government bonds.

That shift leaves the strength of the U.S. equity market as an important long-term dollar driver. It also means the currency's response to higher yields may depend on whether investors continue to favor U.S. risk assets over U.S. government debt. The dollar's failure to benefit from higher rates therefore appears tied to more than one flow: foreign fixed-income demand has become less important, while equity and credit holdings have become more central.

Near-term attention is back on central banks. August CPI and the next FOMC meeting could support the dollar if the Fed raises rates or delivers a hawkish hold. For the yen to extend its rally, the BoJ would likely need a unanimous rate hike. Those events will help determine whether the dollar's decoupling from yields persists or fades.

The dollar's yield advantage has improved with higher U.S. rates, yet the currency has not benefited. That gap between rate differentials and the dollar is the core of the current puzzle. If the Fed signals further tightening, the rate channel could reassert itself; if foreign demand concerns dominate, the dollar may remain less responsive to U.S. yields.

Wed 9 Sep · 11:02 UTC · 1 reports