U.S. Dollar on a Downslope: Invesco
- Written by: Gary Howes
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The U.S. dollar is set to weaken further as diverging central bank policies erode the currency’s yield advantage, according to Invesco.
In its 2026 Annual Investment Outlook, Invesco says interest rate divergence between the Federal Reserve and other major central banks is becoming a key driver of dollar depreciation.
The firm expects the Federal Reserve to deliver further easing next year, saying "we expect around three to four cuts in 2026" if weaker jobs growth persists.
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The Federal Reserve this week lowered interest rates and, crucially, didn't push back meaningfully against expectations for further cuts next year.
Chair Jerome Powell indicated concerns about the U.S. labour market, suggesting the Fed was not more focused on the employment situation than bringing inflation down.
By contrast, Invesco highlights that the Bank of Japan is moving in the opposite direction, noting it is “the one major central bank that we expect to raise rates” before the end of 2026.
This divergence in interest rate policy is expected to weigh on the greenback, with Invesco saying it “expects such divergence in the path of policy rates to continue weakening the US dollar”.
The report argues that the dollar remains overvalued, adding that it “remains above its long-term real trade-weighted equilibrium”.
Invesco says narrowing interest rate differentials will reduce the appeal of US short-term assets and diminish carry trade support for the currency.
Lower hedging costs for foreign investors are also expected to add pressure, as “greater hedging activity in 2026 should put downward pressure on the USD”.
The firm sees scope for gains in rival currencies, highlighting potential strength in “the euro, Japanese yen, and EM currencies”.
Dollar weakness is expected to support emerging market and commodity-linked assets, with Invesco noting that “EM local currency debt looks attractive” outside China.
While a weaker dollar could still support US equities in absolute terms, Invesco cautions that higher long-term US yields may offset some of that benefit.
