Federal Reserve dovish, US dollar weakening: What will this reallocation of funds bring?

Have you noticed? Recently, the US dollar has been sluggish, while gold is shining brightly. The US Dollar Index (DXY) hit a new low for the year at 98.313, down over 9% this year, while gold surged to a historic high of $4,200 per ounce, a 47% increase. It seems like two opposite directions, but the underlying logic is actually the same story—the Federal Reserve’s (Fed) attitude has changed.

The Fed Turns Dovish, Markets Recalculate

After the December Fed policy meeting, Chair Powell delivered a shock. The 25 basis point rate cut to 3.50%-3.75% was in line with expectations, but Powell hinted at a possible pause in rate cuts in January during the press conference, emphasizing that the Fed has already cut rates by 175 basis points and is now at a neutral rate. The key point is that the new dot plot only projects one rate cut in 2025, whereas the market had priced in two cuts (about 50 basis points), causing selling pressure on the dollar.

In other words, the Fed is more “hawkish” than the market had anticipated, contrasting with the hawkish turn of the Reserve Bank of Australia, Bank of Canada, and European Central Bank, resulting in the dollar becoming the biggest loser. UBS forex strategist Vassili Serebriakov bluntly stated that this policy divergence will continue to suppress the dollar.

Even more aggressively, the Fed announced it will purchase $40 billion of short-term government bonds starting December 12 to inject liquidity, further weakening the dollar’s safe-haven appeal.

Chain Reaction of Dollar Depreciation: Who Gains, Who Loses?

The dollar’s weakness immediately triggered a series of asset reallocations.

Tech Stocks and Growth Stocks Rebound
For every 1% depreciation of the dollar, earnings for tech stocks can increase by 5 basis points. This is especially beneficial for multinational companies, as a weaker dollar boosts export competitiveness and lowers borrowing costs. The S&P 500 tech sector has gained over 20% this year, driven in part by dollar depreciation.

Gold Becomes the Favorite
Central banks are rushing to buy gold, with over 1,000 tons purchased this year (led by China and India). Coupled with a surge in ETF inflows, gold prices soared to a record high of $4,200 per ounce. The weak dollar amplifies the demand for inflation hedging, making gold’s safe-haven qualities even more attractive.

Emerging Markets Are the Biggest Winners
The MSCI Emerging Markets Index rose 23% this year, with countries like South Korea and South Africa benefiting from strong corporate earnings and the dual tailwind of a falling dollar. Goldman Sachs research shows that dollar weakness stimulates capital inflows into emerging market bonds and equities, with currencies like the Brazilian real leading the gains.

However, this double-edged sword also has side effects. Dollar depreciation pushes up commodity prices (e.g., crude oil up 10%), intensifying inflation concerns; if US stocks overheat, high-beta assets’ volatility could be amplified.

Will the Dollar Keep Falling? Here Are the Risks

In the short term, dollar weakness is the main trend, but it’s not a one-way street. A Reuters poll shows that 73% of analysts expect the dollar to weaken further by year-end, but reversals are possible.

The key lies in upcoming employment and inflation data. If December’s CPI comes in strong (expected to be released on December 18), the dollar index could rebound to the 100 level. Jefferies economist Mohit Kumar pointed out that employment data will be a turning point; the market is overreacting to labor market signals, and the January meeting’s probability of holding steady at 50/50.

Additionally, the widening US fiscal deficit and government shutdown fears could temporarily support the dollar’s safe-haven demand, providing short-term rebound momentum.

How to Respond to These Changes?

Analysts emphasize that the market is currently in a phase of monetary policy reassessment. The probability of a weaker dollar in the short term is higher, but the long-term trend depends on the depth of economic slowdown.

Investment strategies suggest diversifying into non-US currencies and gold to hedge risks, avoiding excessive leverage exposure, and preparing for volatility. Don’t follow the herd into one-sided bets, as the next major economic data release could instantly change the game.