Summary of "The End of the U.S. Dollar’s Bull Run?" – Morgan Stanley's Thoughts on the Market

Podcast Information:

• Title: Thoughts on the Market
• Host/Author: Morgan Stanley
• Episode: The End of the U.S. Dollar’s Bull Run?
• Release Date: July 15, 2025

Introduction

In the July 15, 2025 episode of Thoughts on the Market, Paul Walsh, Morgan Stanley's Head of European Product, delves into the significant decline of the U.S. Dollar's strength observed throughout the year and explores its ramifications for the European stock market. Joined by Marina Zavolok, Chief European Equity Strategist, and James Lord, Chief Global FX Strategist, the discussion unpacks the structural changes affecting the dollar and offers insights into corporate hedging strategies amidst these shifts.

US Dollar's Declining Strength

Initial Outlook vs. Current Reality

Paul Walsh opens the discussion by reflecting on Morgan Stanley's bearish outlook on the U.S. Dollar at the start of the year—a perspective that diverged from the prevailing consensus of continued dollar strength fueled by factors like U.S. exceptionalism under the Trump administration.

James Lord addresses this shift, explaining that contrary to expectations of sustained growth and capital inflows into the U.S., several factors have contributed to the dollar's weakening:

• Slowing U.S. Growth: Anticipated to decelerate through 2025 and 2026 due to immigration restrictions, limited fiscal stimulus, and escalating trade tariffs.
• Tariff Uncertainty: Increased debates and implementations around tariffs have added to economic uncertainty.
• Policy Uncertainty: General unpredictability in U.S. policymaking has further eroded confidence in the dollar.

James Lord (01:03): "The Fed is ultimately expected to cut to two and a half percent. That's going to really weigh on the dollar as well."

Breaking a 15-Year Bull Run

James highlights that the dollar had been on a 15-year bull run from 2010 until the end of the previous year. However, with current economic indicators and policy directions, Morgan Stanley anticipates this bull run is not only over but that the dollar may continue to decline, potentially reaching a euro-dollar rate of 130.

James Lord (02:49): "The dollar has been on a 15-year bull market... the US has got a 4% GDP current account deficit. In a slowing growth environment, it's going to be tough for the dollar to keep going up."

Implications for European Equities

FX Exposure and Stock Performance

Marina Zavolok discusses the nuanced impact of the dollar's decline on European stocks. Her analysis reveals that:

• Positive Impact: A small subset of the European index, approximately 30%, benefits from euro strength. Sectors like utilities, real estate, and banks within this group have been outperforming the broader European market.

  Marina Zavolok (06:30): "The list of stocks that benefit from euro strength... has been strongly outperforming the European index, especially year to date."

• Negative Impact: Over half of the European index is adversely affected by euro and other local currency strength, primarily due to:

  • Earnings Downgrades: Companies with significant dollar or emerging market exposures face earnings challenges.
  • Translation Effects: Local currency gains translate into lower reported earnings in euros.

  Marina Zavolok (07:06): "More than half of the European index is negatively exposed to this euro and other local currency strength."

Sector-Specific Performance

Sectors positively exposed to euro strength, such as utilities and real estate, continue to break new relative highs, suggesting resilience amidst the broader economic headwinds. Conversely, sectors with high dollar or emerging market exposures are experiencing increased volatility and earnings pressure.

Corporate Hedging Strategies

Importance of Advanced Hedging Programs

Marina emphasizes the critical role of effective FX hedging for corporates exposed to currency fluctuations:

• Hedging Mismatches: Approximately half of the European index faces FX mismatches, including intra-European and Asia-related exposures.

• Advanced Hedging Benefits: Companies employing sophisticated hedging strategies outperform their peers with limited or no hedging. Additionally, these firms exhibit lower share price volatility.

  Marina Zavolok (08:49): "Companies that have advanced hedging FX hedging programs... tend to outperform... and they tend to have lower share price volatility."

Adapting Hedging Tactics

James Lord discusses how companies might adjust their hedging approaches in response to prolonged dollar weakness:

• Adjusting Hedge Ratios: Firms can modify the extent of their hedges, potentially hedging between 80% to 100% of their exposure.
• Timing Adjustments: Delaying the implementation of hedges to better align with market conditions.
• Diverse Hedging Instruments: Utilizing a mix of spot markets, forward contracts, and option-based strategies to optimize cost-effectiveness and risk management.

James Lord (09:37): "Some companies may adjust their hedge ratios and delay the timing of their hedges... Different types of strategies work for different types of market environments."

Future Outlook and Investor Considerations

Growth Perspectives in Europe

Marina addresses the often-perceived narrative of Europe's stagnant growth:

• Local Currency vs. Dollar Terms: While local currency earnings growth in Europe is forecasted to approach 1% and may turn negative, the situation looks more favorable when translated into dollar terms, with European earnings growth projected at 7.6%.

  Marina Zavolok (10:43): "In dollar terms, European earnings growth at this point are 7.6%... giving Europe the benefit for the Euro exposure that it has in other local currencies."

Investor Strategy Recommendations

Investors are encouraged to:

• Focus on Constant Currency Terms: Assess European growth in dollar or constant currency terms to gain a more accurate picture.
• Monitor FX Implications: As FX considerations become more central to investment analysis, incorporating them into decision-making processes will be crucial.
• Identify Beneficiary Sectors: Target sectors and stocks that benefit from euro strength and exhibit robust hedging strategies.

Conclusion

The episode concludes with Paul Walsh summarizing the intricate relationship between the weakening U.S. Dollar and its impact on European markets. The strategic insights provided by Marina Zavolok and James Lord underscore the necessity for sophisticated hedging practices and a nuanced understanding of currency effects on earnings and sector performance. As the dollar's structural decline continues, investors and corporates alike must adapt to navigate the evolving financial landscape effectively.

Paul Walsh (12:05): "This is not a straightforward topic and we obviously think this is a very important theme moving through the balance of this year."

Key Takeaways

• U.S. Dollar Weakness: Driven by slowing U.S. growth, policy uncertainty, and trade tensions, signaling a potential end to its 15-year bull run.
• European Market Impact: A minority of European stocks benefit from euro strength, while the majority face negative impacts due to currency exposures.
• Hedging Strategies: Advanced and adaptable FX hedging programs are essential for mitigating risks and enhancing corporate performance.
• Investor Focus: Evaluating growth in constant currency terms and targeting resilient sectors can provide better investment outcomes amidst currency volatility.

For more insights and detailed analysis, listeners are encouraged to tune into Morgan Stanley's Thoughts on the Market podcast.