The U.S. dollar is telling a story of contradictions in early 2026. Near its weakest levels since October 2025, the greenback has shed roughly 9% over the past 12 months—yet strategists at major banks see the current weakness as just the first chapter of a V-shaped narrative that will unfold over the year ahead.

Where the Dollar Stands Today

The DXY dollar index—which measures the greenback against a basket of major currencies—is trading around 99, having fallen from highs above 108 seen in late 2024. The decline reflects a confluence of factors:

  • Fed rate cuts: The Federal Reserve reduced rates by 75 basis points in the second half of 2025, narrowing interest rate differentials with other major economies
  • Softer inflation: December's core CPI came in at 2.6%, matching a four-year low and reinforcing expectations for continued Fed accommodation
  • Global diversification: Central banks and investors have gradually diversified reserves and portfolios away from dollar-denominated assets

Despite these headwinds, the dollar remains the world's dominant currency. IMF data shows the greenback accounts for approximately 57% of global foreign exchange reserves, while BIS statistics indicate the dollar appears on one side of roughly 89% of all currency trades.

The V-Shape Thesis

Morgan Stanley's currency research team has outlined a compelling framework for understanding the dollar's likely path in 2026: a V-shaped trajectory that sees further weakness in the first half before strength returns in the second.

First Half: The Decline to 94

According to Morgan Stanley's projections, the DXY could fall from its current level around 99 to approximately 94 by the second quarter of 2026. This decline would be driven by:

  • Additional Fed rate cuts: Markets are pricing in further rate reductions to protect employment as economic growth moderates
  • Improving global growth: Stronger economic performance in Europe and Asia could attract capital flows away from the U.S.
  • Narrowing yield spreads: As U.S. rates fall while other central banks maintain or raise rates, the dollar's yield advantage diminishes

Second Half: The Rebound

The V-shape's second leg—a recovery back toward 100 or higher by year-end—rests on several catalysts:

  • Fiscal stimulus effects: The Trump administration's tax cuts and spending initiatives are expected to boost growth and potentially reignite inflation, forcing the Fed to pause or reverse course
  • Tariff implementation: Trade policy measures could improve the U.S. trade balance and attract capital inflows
  • Safe-haven demand: If global uncertainties intensify, the dollar's role as the world's primary safe-haven currency could reassert itself

"The dollar is expected to weaken in the first six months, dropping from its current level around 99 down to approximately 94, as the Fed cuts interest rates to protect jobs. However, this dip should be temporary. By the second half of the year, the effects of new government spending and trade tariffs will likely boost inflation, forcing interest rates back up and pushing the dollar back to or even above its starting level."

— Currency strategist analysis

What This Means for Investors

The dollar's trajectory has far-reaching implications across asset classes:

For U.S. Stock Investors

A weaker dollar typically benefits multinational corporations by boosting the value of overseas earnings when translated back to dollars. Companies with significant international revenue—think technology giants and industrial exporters—often see earnings tailwinds in weak-dollar environments.

Conversely, a weaker dollar can hurt companies dependent on imported goods and materials, as input costs rise in dollar terms.

For International Stock Investors

U.S. investors holding unhedged international positions face a double-edged sword. A declining dollar boosts returns from foreign stocks when measured in U.S. currency, but the V-shaped scenario suggests this tailwind could reverse in the second half.

For Bond Investors

The interplay between Fed policy and the dollar creates both risks and opportunities in fixed income. If the Fed cuts rates more than expected in the first half, bond prices would rise—but a second-half reversal could erase those gains.

For Commodity Investors

Commodities priced in dollars—including oil, gold, and copper—often move inversely to the currency. A weaker dollar in the first half could support commodity prices, while second-half dollar strength might create headwinds.

Key Risks to the Forecast

Several factors could derail the V-shaped scenario:

  • Fed surprise: If the Fed proves more hawkish than expected, dollar weakness may be limited or reversed earlier
  • Global recession: A severe economic downturn abroad would likely trigger safe-haven flows into the dollar, disrupting the first-half weakness thesis
  • Debt ceiling drama: Political fights over the U.S. debt limit could create volatility and potentially undermine dollar confidence
  • Geopolitical shocks: Escalating conflicts or crises could overwhelm fundamental factors and drive unpredictable currency moves

Practical Steps for Portfolio Management

Given the outlook for currency volatility, investors might consider:

  • Reviewing currency exposures: Understand how your portfolio is positioned relative to dollar moves
  • Considering hedging strategies: For investors with specific currency views, hedging instruments can help manage risk
  • Maintaining diversification: Currency forecasts are notoriously difficult; diversification remains the best defense against prediction errors
  • Focusing on fundamentals: Over the long term, corporate and economic fundamentals matter more than currency fluctuations

Key Takeaways

  • The US dollar has fallen roughly 9% over the past 12 months to around 99 on the DXY index
  • Morgan Stanley projects a V-shaped trajectory: decline to 94 by mid-year, recovery to 100+ by year-end
  • First-half weakness driven by Fed rate cuts and improving global growth
  • Second-half strength expected from fiscal stimulus, tariffs, and potential inflation resurgence
  • The dollar outlook has significant implications for stocks, bonds, and commodities