Union Connect: High outflows from the US weigh on the US dollar

Significant depreciation of the US dollar, particularly against the euro and yen
Repatriation of foreign investment funds following the tariff shock as the trigger
Reassessment of US capital markets, but no sell-off
Continued market volatility conceivable, but liquidity is assured

The US dollar has lost a lot of value since President Trump took office, which is down to the tariff dispute and some erratic US economic policies. International investors have started to cut back on their US investments. Even so, it's unlikely that there'll be a major shift away from the US capital market. Earnings forecasts still look good for the US.

The exchange rate of the US dollar has fallen surprisingly sharply since Donald Trump took office. Until mid-January, it was moving towards parity with the euro, with the exchange rate at around 1.03 US dollars. But then the tide turned. Since the beginning of March, the greenback has lost significant ground against all major currencies and is currently at around 1.14 US dollars per euro (25 April 2025), its lowest level in three years. This development is primarily the result of the tariff conflict initiated by Donald Trump. 2 April was a moment of shock for global capital markets. Even though Trump has postponed most of the tariffs for three months for the time being and promised bilateral negotiations with many trading partners, confidence in US economic policy has been shaken.

At Easter, Trump added fuel to the fire with statements that fuelled fears that he might try to dismiss US Federal Reserve Chairman Powell. Although Trump soon denied this, a bitter aftertaste remains. Under current law, it is virtually impossible to fire the head of the Federal Reserve. Powell will only remain chairman of the US Federal Reserve's Board of Governors for around another year, but is expected to remain a member of the governing body until 2028. However, the fact that Trump has even raised the issue of the Fed's independence is leaving its mark on the capital market. As a result, yields on long-term US Treasuries initially rose sharply.

Foreign countries are reducing their US investments
As a result of the significantly increased uncertainty caused by the constantly changing announcements on US tariff policy, international investors divested some of their investments in the US capital market. It should be noted that they had also built up very high overweightings in the US in recent years, as the US markets had long offered the highest returns. The technology and artificial intelligence rally surrounding the major US tech companies (Magnificent Seven) lasted for years and was only halted at the end of January this year by the market entry of the Chinese AI model DeepSeek. In addition, important benchmarks such as the MSCI World Index consist of around 70 per cent US equities.

Many investors have clearly drawn an important conclusion from the last few weeks: with Trump's erratic style of government and the daily changing news situation, the risks for investments in the US must also be reassessed. This applies to all asset classes, not just the exchange-traded segments.

Looking at the individual market segments, it can be seen that European investors were (and still are) particularly heavily invested in US equities, while the majority of US government bonds held abroad (around 30 per cent) are held by institutional investors in Asia, particularly Japan and China. According to our current assessment, the recent dynamic weakness of the US dollar against the euro and yen is mainly due to the reduction in US equity holdings by international (and also European) investors.

Even though there was a significant rise in yields on the US bond markets at the beginning of April, particularly for long maturities, the situation has initially calmed down thanks to the monetary policy anchoring of short maturities. Short-term action by central bank reserve managers in US dollars is unlikely and not currently visible. However, it remains to be seen whether these strategically oriented players will change their investment behaviour in the future. For example, China, the second-largest foreign creditor of the US, has been reducing its US Treasury holdings for several years, albeit in a market-friendly manner and in small steps. This is probably being done by not reinvesting maturing US government bonds.

Despite further revisions: profits are growing in the USA

Earnings forecasts revised downwards

Sources: Bloomberg, Union Investment; as of 17 April 2025.

Profit growth for three years only in the USA

Sources: Bloomberg, Union Investment; as of 17 April 2025.

The US market is being revalued, but there is no massive flight

It is clear that international investors have reduced some of their very high US investments. This has also led to a decline in the previously extremely high valuations, especially on the US stock market. However, an international comparison shows that although the valuation gap between the US and Europe is narrowing, it is very unlikely to close completely in the short term. There are several reasons for this: due to its sheer size (liquidity) and global dominance, investors cannot ignore the US market in the long term. In addition, although US growth will slow down as a result of Trump's disruptive policies, it should nevertheless remain positive. The US tech boom is continuing. Europe, on the other hand, has been struggling with weak economic momentum and a lack of innovation for years, and US tariffs are putting additional pressure on corporate profits. The German economic stimulus package, on the other hand, is not expected to have a positive effect on domestic growth until 2026.

Greater regional diversification of investments makes sense

Investors are wondering how much confidence has been lost in the US economy. Given Donald Trump's unpredictability, the risks for US investments have definitely increased. However, as long as the US continues to be heavily weighted in the most important benchmarks and institutional investors stick to these benchmarks, a massive shift away from the US capital market is unlikely. Moreover, from a global perspective, there are not unlimited alternatives that allow for large capital allocations. Nevertheless, broader regional diversification of investments makes sense. Our portfolio management had already increased the weighting of Europe at the expense of the US since autumn 2024. However, it should not be forgotten that earnings expectations continue to favour the US over Europe. Depending on the investment horizon, risk appetite and investment restrictions, additions to the portfolio in the emerging markets of Asia and Latin America are also worth considering.

Fundamental data should also come back into focus for the US dollar

In our view, the massive capital outflows from the US equity market in recent weeks have overcompensated for the fundamental situation. Looking at the interest rate differentials between the US and the eurozone, for example, the key interest rate in the US should remain stable, while in Europe the signs continue to point to interest rate cuts due to weaker growth and easing inflation. This argues against a further dynamic depreciation of the US dollar against the euro, at least unless the situation comes to a head again.

Source: Union Investment, all information, explanations and illustrations are as of 28 April 2025, unless otherwise stated