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Goldman Sachs: We’re closing two of our long-dollar ‘top trades’

  • Goldman Sachs is closing two long-dollar "top trade" ideas, both of which produced potential losses.
  • Goldman said global economic growth has picked up, reducing U.S. outperformance.
  • Goldman also pointed to Trump's comments complaining the dollar was too strong.
  • Goldman said it expected the Fed may pause interest-rate hikes while adjusting its balance sheet.
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Goldman Sachs is closing two long-dollar "top trade" calls, both of which would have posted losses, the bank said in a note on Tuesday.

"In recent years we have generally maintained a bullish dollar view, and the greenback still has a number of things going for it, including a healthy domestic economy, an active central bank, and lower political uncertainty compared with the U.K. and euro area," the note said. "However, a number of fundamentals have changed on the margin, such that the long-dollar story no longer warrants a place among our 'Top Trades.'"

The trades, which it initiated in mid-November, were a long dollar plays against the euro and the pound as well as going long the dollar/yuan via a 12-month non-deliverable forward (NDF), Zach Pandl, a senior U.S. economist at the bank, said in the note.

The euro and pound trade had a potential return of negative 0.2 percent, with modest carry gains offsetting a spot return of negative 0.6 percent, while the yuan trade had a potential loss of 1.1 percent, Pandl said.

He cited three reasons that the trades didn't work out, adding that he expected all three would remain dollar headwinds.

First, global economic growth had picked up, reducing the U.S. economic outperformance, he noted, citing gross domestic product (GDP) forecasts for G-10 countries since the U.S. presidential election in November.

"Although forecasters have marked up their U.S. growth expectations over this period, the changes have been more modest than for other economies, including the U.K. and Euro area," he said.

He also noted that there's been uncertainty about the true pace of activity in the U.S. after first-quarter estimates, as well as the new administration's "slow start" on tax reform and infrastructure spending.

"Meanwhile, China has expanded fiscal and credit policy, lifted domestic interest rates, and closed the capital account—all of which affected our dollar/yuan call," the note said.

Pandl also pointed to U.S. President Donald Trump's recent rumblings on dollar strength.

Last week, Trump said the currency was "getting too strong" in an interview with The Wall Street Journal.

"I think our dollar is getting too strong, and partially that's my fault because people have confidence in me. But that's hurting—that will hurt ultimately," Trump told the paper.

That sent the dollar index, which measures the greenback against a basket of currencies, tumbling. On Wednesday, it was trading around 99.625 in Asian hours, compared with levels over 101 before the comments were published.

"The administration's currency views could affect the dollar through a variety of channels, including its appointments to the Federal Reserve Board and through aspects of trade and fiscal policy," Pandl said.

The third headwind to a long dollar trade came from less-hawkish expectations for tightening from the U.S. Federal Reserve.

"Although we ultimately expect the FOMC to deliver more rate increases than discounted by markets, Fed officials have been in no particular hurry to speed things up," he said, noting Goldman's view is for hikes at the June and September meetings and for a "balance sheet normalization" announcement in the fourth quarter.

Earlier this month, a summary of the Federal Open Market Committee meeting held in March, during which the group approved a quarter-point hike in its benchmark interest rate target, indicated that officials would begin shedding some of the $4.5 trillion in bonds it holds on its balance sheet this year.

The Fed amassed most of the bonds it owns during three rounds of "quantitative easing," a monthly bond-buying program aimed at juicing the economy following the financial crisis.

Pandl noted that following the taper tantrum in 2013, when markets convulsed after the Fed first broached the idea that it would taper its bond purchases, policy makers were likely to move carefully on adjusting the balance sheet.

He expected the Fed would likely pause rate hikes when the normalization process began.

"As a result, the dollar has not benefited as much as we might have thought from hawkish communication about the funds rate in recent months," he said.

—Jeff Cox contributed to this article.

—By CNBC.Com's Leslie Shaffer; Follow her on Twitter @LeslieShaffer1

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