The dollar has fallen much faster than expected, but more problems likely lie ahead, warns Morgan Stanley (NYSE:MS), predicting nearly a ten percent decline by mid-2026, driven by a deeper-than-anticipated rate cut from the Federal Reserve and a slowdown in U.S. economic growth.
"The DXY index fell faster than we anticipated in our annual forecast, reaching our year-end target of 101 points last month. We believe this trend of weakening will continue, and now forecast that DXY will drop another 9% over the next 12 months to 91, with the weakness of the U.S. dollar being most pronounced against its safe-haven counterparts – EUR, JPY, and CHF," said Morgan Stanley strategists in their semi-annual forecast.
Morgan Stanley's bear forecast for the dollar is based on a softer rate outlook for the U.S. than the markets currently anticipate. Morgan Stanley expects the Fed to keep rates unchanged for most of 2025, but then "will implement a rate cut of 175 basis points amid weaker real growth and a return of inflation to target levels." This is a much more aggressive easing path than current forwards reflect, and is expected to lead to a decline in 10-year Treasury yields to just above 3.00% by the end of 2026.
"We expect U.S. 10-year Treasury yields to reach 4.00% by the end of 2025 and finish 2026 just above 3.00%, significantly outpacing German bunds, British gilts, and Japanese government bonds, as the Fed cuts rates much more than forwards currently price in for 2026," said the strategists.
