Insights 
VT 
In the first half of 2025, the US dollar has weakened significantly, falling nearly 10–11% against major currencies such as the euro and yen.
Donald Trump has made no secret of his preference for a weaker USD, aligning with his “America First” agenda. A softer dollar makes imports more expensive, encouraging domestic sourcing while making US exports more competitive abroad
However, political strategy is only one of several contributing factors. The dollar’s weakness is also driven by a surge in US trade deficits and rising fiscal pressure, largely due to Trump’s tax and spending plans, which are projected to increase national debt by an estimated $3.4 trillion over the next decade.
While the Federal Reserve has acknowledged that inflation remains a concern, the easing of tensions in the Middle East has helped fuel sentiment that rate cuts may be on the horizon, reviving hopes for monetary easing in the second half of the year.
Meanwhile, heightened tensions between the US, China, and Russia, have strengthened the BRICS nations’ resolve to reduce reliance on the US dollar, contributing to a shift in capital flows as global investors diversify away from dollar-denominated assets.
This evolving landscape is reshaping investment patterns in emerging markets (EM). But does dollar weakness present a true opportunity—or a potential trap?
Why Emerging Markets Could Soar
A weaker USD shifts investor sentiment and enhances the appeal of non-US assets, including emerging market bonds and equities. Studies show this typically fuels a reallocation of global portfolios, with local-currency EM debt attracting renewed interest. In fact, inflows into EM local debt have hit record highs in 2025, driven by double-digit returns.
For many EM nations with debt denominated in US dollars, the greenback’s decline offers direct relief—lowering the real cost of repayment, expanding fiscal flexibility, and reducing default risk.
As noted earlier, the Fed appears increasingly inclined to lower interest rates. This would widen the yield differential between EM central banks and the US, potentially reviving carry trade strategies—where investors borrow cheap USD to finance positions in higher-yielding EM assets.
A weaker USD also supports commodity rallies. Since most commodities are priced in dollars, a softening dollar improves local-currency returns. This benefits resource-heavy EM economies like Brazil, Russia, South Africa, and Indonesia, whose growth is closely tied to raw materials and energy exports.
Clearly, EM markets stand to gain—but not without potential hazards.
The Risks Behind Dollar Weakness
While capital inflows can boost EM asset performance, they also carry destabilising risks when they occur too quickly. Sudden outflows, triggered by rising US yields or a shift in global risk sentiment, can cause severe market dislocations.
These tailwinds rely heavily on policy consistency from the US. Should the Fed unexpectedly reverse course due to geopolitical shocks, the resulting dollar rebound could lead to sharp corrections in EM assets.
Additionally, as EM currencies strengthen against a weakening dollar, their exports become less competitive while imports become cheaper—creating economic friction. To manage this, many EM central banks maintain tight control over exchange rates, often intervening to avoid excessive appreciation. Such intervention could cap upside potential in their local currencies.
Current Snapshot and Market Strategy
We are currently witnessing record-breaking inflows into emerging market debt. According to EPFR data, local-currency EM bond funds have posted eight consecutive weeks of inflows, including a record weekly high nearing $3.8 billion. This surge reflects growing investor confidence in the carry potential and relative stability of EM debt amid a weakening US dollar.
Emerging market equities are also outperforming the S&P 500, with many analysts expecting the dollar’s weakness to persist through the rest of 2025. This outlook is supported by stretched USD valuations and a broader trend of structural disinflation, both of which reinforce the case for continued upside in EM assets.
In this environment, traders and investors are encouraged to remain agile and responsive to shifting conditions. With EM bond yields still offering attractive returns, exposure through local-currency government or corporate bond ETFs can be an effective way to capture income while diversifying currency risk. Carry trade opportunities are also becoming more appealing, particularly through long positions in EM currencies against the dollar, though careful attention must be paid to global interest rate movements and potential volatility in carry premiums.
On the equity front, investors should focus on emerging economies that feature wide interest rate differentials and improving growth trajectories—India and Mexico, in particular, stand out in this regard. Diversification remains a critical strategy, especially given the uneven recovery among EMs and varying degrees of structural resilience.
Close monitoring of the Federal Reserve remains essential, not just in terms of rate decisions but also fiscal rhetoric, which could signal unexpected shifts in policy direction. Geopolitical tensions continue to run high, and any shock event could trigger a sharp turn in risk sentiment. In such cases, sudden reversals in capital flows could impact EM performance significantly.
To help mitigate downside risk, traders may consider using FX options or bond futures as strategic hedging tools. These instruments offer protection against rapid outflows and provide greater flexibility in managing exposure during periods of heightened uncertainty.
Tailwind with Conditions
The tailwinds for emerging markets are real—but conditional. For these benefits to persist, the Fed must hold a neutral or dovish stance, and global growth, particularly in China and Europe, must continue to support EM commodity exporters.
Not all emerging markets will benefit equally. Those with sound monetary policy, manageable debt levels, and diversified export bases are best positioned to capitalise on this shift.
While a weakening dollar can boost EM inflows, reduce debt burdens, and enhance currency returns, the risk of reversal remains high. Investors must remain vigilant—balancing opportunity with caution.
If this USD weakness reflects long-term structural sentiment tied to the US debt burden, we may be witnessing more than just a cyclical rebound. Emerging markets could be on the cusp of a sustained period of outperformance.
