What to do with the U.S. dollar?

Investing.com -- The renewed volatility in financial markets since U.S. President Donald Trump returned to office has put the U.S. dollar under fresh scrutiny.

While some of the moves reflect concerns about the outlook for growth, inflation, and monetary policy, UBS argues that investor positioning is also playing a key role.

Dean Turner, economist at UBS, argues that “much of the movement we have seen has been the result of investors questioning the proportion of their assets they wish to hold in U.S. dollars.”

That has contributed to a weaker dollar, rising long-dated Treasury yields, and stronger European equity performance. The pound has also been volatile, falling from 1.25 to near 1.20 before rallying to around 1.35.

With policy uncertainty expected to remain elevated, Turner believes that the dollar’s safe-haven appeal is fading. “In today’s world, with the U.S. increasingly the source of uncertainty, its safe-haven appeal is dwindling,” he said in a Monday report.

Despite that, the economist warns against a full exit. The U.S. remains unmatched in terms of size and liquidity, making it unlikely that global investors will abandon the currency altogether.

However, Turner says that “a combination of policy uncertainty and ongoing trade and budget deficits points to more weakness in the coming quarters.”

For U.K.-based investors, the key is to reassess exposure. Those using dollars to cover sterling-denominated costs could face higher expenses if the dollar continues to weaken.

Turner suggests putting in place plans to limit conversion at unfavourable exchange rates. Investors may also want to reallocate cash held in U.S. dollars toward other opportunities, including cyclical currencies like the AUD, NZD, SEK, NOK and GBP, or low-yield safe havens such as the CHF and JPY.

Higher-risk emerging market currencies like the BRL, MXN, or ZAR may also be considered.

“A weaker USD would mean that outgoings in sterling become more expensive. Putting in place structures or plans to avoid converting USD at less favourable exchange rates should be considered,” Turner explained.

Gold could also play a role in portfolio diversification. Although it offers no yield, the bullion has historically served as a hedge against geopolitical and inflation risks.

“We still think that an allocation makes sense,” Turner concludes, suggesting that it may be a suitable option for deploying surplus U.S. dollars.