The May rise in the US dollar, driven by expectations of tighter policy by the US Federal Reserve, did not convince Wall Street analysts. Major US banks forecast a near end to the currency rally and advise against chasing the departing trend.
Since the start of May, the Bloomberg Dollar Spot Index has gained 0.7%. Investors actively bought US assets, pricing in a Fed rate hike by early 2027. However, for the greenback, which has been in a global downtrend since 2025, this monthly gain may be only the fourth monthly increase.
Strategists at Morgan Stanley and Wells Fargo say the focus of the foreign exchange market is shifting. First, global central banks are preparing to raise rates more aggressively than the Federal Reserve. Second, optimism over a ceasefire between the US and Iran is stripping the dollar of its safe-haven status. The consensus forecast already prices in a 1% decline in the index by the third quarter and a 2% drop by year-end.
Wells Fargo macro strategist Eric Nelson said the bank will not participate in the current rally, noting that American exceptionalism has likely reached another peak that will prevent the US dollar from breaking out of its usual trading ranges.
The technical picture reinforces fundamental skepticism. The index has failed to hold above its 200-day moving average since April — the moment Donald Trump announced a peace agreement with Iran. That resistance line has capped the dollar for more than a year, holding even through the March flare-up in the Middle East.
The primary driver of the dollar’s weakening will be a narrowing in interest rate differentials. Matthew Hornbach, head of macro strategy at Morgan Stanley, said the European Central Bank and the Bank of Japan will begin to catch up with the Federal Reserve in the coming months, creating an ideal macroeconomic backdrop for a weaker dollar. Derivatives markets are already pricing in only 30 basis points of Fed hikes by March 2027, while the ECB is expected to raise rates by 60 basis points, the Bank of England - by 40 basis points, and the Bank of Japan, according to swaps, is set to lift rates by 40 basis points by the end of the current year.
