Fifty years of freely floating exchange rates have taught us that times of economic uncertainty and heightened geopolitical stress are precisely when currencies tend to move most. And yet, despite major geopolitical events, changing global trade patterns and investors rebalancing their portfolios, currency markets have been much less volatile this year than investors would have expected. We explore why this might be the case and lay out our expectations for which currencies may perform best for the remainder of 2026.
For currency markets, major economic upheavals have traditionally been a time to buy the U.S. dollar. This has become somewhat of a knee-jerk reaction, since the greenback had proven its mettle as a ‘safe haven’ and was among the best performing currencies during the global financial crisis in 2008, Europe’s sovereign debt crisis in 2012 and the COVID pandemic in 2020. It was perhaps strange, then, that the dollar didn’t get much of a boost when the U.S. unleashed missile strikes on Iran in late February. It is not as though the economic implications weren’t severe, given that the waterway shuttered by the Iranians in early March serves as a major chokepoint for one fifth of the world’s oil shipments. The resulting spike in crude oil prices should also have been U.S. dollar-supportive given that the U.S. is the world’s largest producer of oil while other regions (Europe, China, Japan) are more dependent on the Middle East for oil.
Exhibit 1: The dollar has been range-bound for the past year
Note: As at June 2, 2026. Source: Bloomberg, RBC GAM
Why, then, has the dollar failed to break above the upper-end of its year-long 5% range (Exhibit 1)? We put forward four reasons:
One explanation is that investors have been gradually becoming more bearish on the greenback. They were looking for opportunities to reduce their holdings in the currency well before the Middle East conflict began. We’ve noted in past editions of this publication that the U.S. dollar is extremely expensive (Exhibit 2). U.S. policymakers have undermined the greenback’s role in global investment and global trade by freezing the foreign exchange reserves of adversaries, imposing aggressive tariffs on trade partners and by threatening withdrawal from global security alliances. So perhaps the small U.S. dollar rally in the early days of the war was enough to encourage investors to convert U.S. currency exposure into euros, Chinese yuan and other major currencies.
Another explanation could be that the U.S. dollar no longer serves as one of the world’s safe-haven currencies. While it is true that superior depth and liquidity of U.S. bond markets make Treasuries a preferred investment during times of stress, it’s not clear to us that the same preference should apply to the dollar.
Exhibit 2: U.S. dollar is expensive versus purchasing power parity
Note: As at May 31, 2026. Source: Bloomberg, RBC GAM
A currency’s behaviour as a safe haven is dictated by the magnitude and direction of capital flows during periods of risk aversion. The reason the U.S. dollar and Japanese yen had been safe haven currencies during past crises was because both countries ran positive net equity and direct investment balances. Like in Japan, investors and corporations in the U.S. owned more assets abroad than foreigners owned in American assets. The liquidation and repatriation of that capital during times of market stress is what caused the greenback to rally during past crises.
Since 2018, however, the net balance of investment has flipped (Exhibit 3). Foreigners are now the ones that hold larger investments in the U.S. This is likely the result of the superior U.S. equity performance over the past decade, the shale energy boom and clear leadership of U.S. firms in the technology sector. Some estimates suggest that this foreign ownership in U.S. stocks could be as large as US$30 trillion, for which even a small portion of repatriation back to Europe, Asia and Canada (the largest foreign holders of U.S. equities) would be sufficient to weaken the greenback.
Exhibit 3: U.S. net equity position turned negative in 2018
Note: As at December 30, 2025. Source: International Monetary Fund, U.S. Bureau of Economic Analysis, RBC GAM
A third reason for the dollar’s reluctance to rally could be that the world’s other central banks had been quicker than the Fed to pivot toward tightening policy. Higher interest rates abroad would certainly lessen the appeal of the greenback, and the dollar has indeed lost some of its yield advantage relative to other G10 economies since last year (Exhibit 4). Even so, these differences in policy between the Fed and other central banks have been relatively small. The fact is that central banks are expected to be pursuing tighter monetary policy in response to the inflationary impact of higher crude oil prices. This synchronized policy shift has had a bigger impact on bond markets than currency markets (Exhibit 5).
Exhibit 4: The yield advantage of the U.S. dollar has been shrinking
Note: As at June 2, 2026. Source: Bloomberg, RBC GAM
Exhibit 5: Currency markets unfazed by geopolitics
Note: As at June 1, 2026. Source: Deutsche Bank, Bank of America, Bloomberg, RBC GAM
One final reason the greenback hasn’t rallied is that policymakers in Asia have been stemming the greenback’s gains through currency intervention. Most notably, this includes Japan, where the Ministry of Finance has been escalating its threat of action for several months and finally intervened in late April when the JPY exchange rate breached 160 per dollar. Since then, the Japanese have liquidated more than $73 billion of their U.S. dollar holdings to prop up the yen.
The Japanese are not alone: India has spent $47 billion of its own reserves and Indonesia has also been active in defending the rupiah. These countries are among the most affected by the rise in energy prices and policymakers are alert to the fact that the weaker purchasing power of currencies would make the oil that is purchased in U.S. dollars more expensive.
Outlook
We expect the U.S. dollar to soften in the year ahead. We recognize, however, that the economic implications from the Iran war will persist well beyond the end of the conflict and will be more painful for Europe and Asia than for the U.S. We take some comfort from the fact that investors are already quite cautious on those regions, having drawn parallels to the Russian invasion of Ukraine in 2022.
In fact, the current environment is quite different, given that gas prices have not spiked nearly as much as in 2022, that energy efficiency has improved (more electric vehicles, renewable energy, etc.) and that Europe’s energy imports are now more diversified than they used to be (Exhibits 6 & 7). Even still, our optimism on the euro and the yen has been tempered somewhat. For several quarters, we have instead been anticipating that emerging market currencies would lead during the next leg lower in the greenback.
Exhibit 6: European gas prices are lower than at the outset of the Ukrainian war
Note: As at June 3, 2026. Source: CME, RBC GAM
Exhibit 7: Europe’s gas imports not overly reliant on Russia & Middle East
Note: As at June 3, 2026. Source: Eurostat, RBC GAM
This outlook has begun to take shape (Exhibit 8), with some EM currencies having delivered healthy gains this year. It’s notable, though, that low-yielding Asian currencies are also among the year’s worst performers. Note as well that the vast majority of currencies have still outpaced the U.S. dollar so far this year.
Exhibit 8: Some emerging market and G10 currencies have outpaced the U.S. dollar this year
Note: As at May 29, 2026. Source: Bloomberg, RBC GAM
For most of the past year, it was possible to be bullish on emerging market currencies as a whole because the group behaved more or less as one, rising and falling inversely to the dollar. These days, we have been more cautious and discerning about choosing which currencies to buy. While this year’s jump in oil prices has prompted investors to focus on individual country terms of trade (the change in price of imports relative to those of exports), we suspect that other differences may increasingly play a role in driving currencies.
Examples that come to mind include political developments as well as fiscal and monetary policies. In Hungary, the newly elected pro-Europe Tisza party has unlocked billions in social and infrastructure funding, for example. Brazil’s upcoming election in October could similarly install a more investor-friendly government that could help stabilize the fiscal deficit. Elsewhere, investors are eyeing the impact of oil subsidies on fiscal balances and are conscious of central banks being forced into growth-damaging interest rate hikes to fight rising inflation.
We remain broadly positive on Latin America, preferring the Chilean peso and Brazilian real to the currencies of Mexico and Colombia. We also like the South African rand, as the country’s economic and political trajectory has been improving, while we are more neutral on currencies within Eastern Europe and the Middle East. We have largely avoided Asian currencies this year owing to lower yields and to the energy-supply shock that poses a challenge for those most reliant on Middle Eastern oil and gas.
The exception to this view is the Chinese renminbi, which we expect will continue to rally for several reasons:
China is less vulnerable to the closure of the Strait of Hormuz given its stockpiles of oil and other commodities and also due to heavy investments over the past decade in solar and wind technology that lessens their need to import energy (Exhibit 9).
Exhibit 9: China’s investment in renewables reduces dependence on oil and gas
Note: As at 2024. Source: International Renewable Energy Agency, Gavekal, RBC GAM
The country generates a massive trade surplus of more than US$1 trillion per year (Exhibit 10), in part due to a cheap currency which allows Chinese goods to remain competitively priced.
Exhibit 10: China is generating a trillion dollar trade surplus
Note: As at April 30, 2026. Source: China General Administration of Customs, RBC GAM
While Trump’s tariffs have curbed Chinese exports to the U.S., China has developed closer trade relationships with many of its Asian neighbours (Exhibit 11). We would not be surprised if a greater share of this trade started to take place in renminbi, as has already begun with China’s import of oil from Russia, Iran and Saudi Arabia.
Exhibit 11: China is increasing trade with its Asian neighbours
Note: As at April 30, 2026. Data is a 6-month rolling average. Source: China General Administration of Customs, RBC GAM
China now seems to be making quicker progress toward its multi-decade plan to internationalize the currency to secure lower interest rates, geopolitical leverage and other advantages associated with reserve currency status. To encourage this pickup in renminbi usage, policy makers in China have been guiding the currency stronger through their daily reference rate for the yuan and +/- 2% band within which the currency is kept (Exhibit 12).
Exhibit 12: The Chinese yuan has steadily appreciated over the past year
Note: As at June 2, 2026. Source: Bloomberg, RBC GAM
Within the developed world, we have grown more cautious on the biggest and most liquid currencies (euro, yen, pound) and instead prefer those belonging to economies that are more growth-oriented and commodity-linked. These include the Australian dollar, Norwegian Krone and Canadian dollar, all of which are insulated from the energy shock and have stronger fiscal and trade balances than their peers. Perhaps more importantly, the three currencies offer greater protection in an inflationary world as they export commodities whose prices rise alongside inflation and alongside a softer U.S. dollar.
Our outlook for the Canadian dollar is a bit more tentative than for the other G10 commodity currencies. We remain concerned about the near-term risks associated with the renegotiation of the U.S.-Mexico-Canada (USMCA) trade agreement, which officially comes up for review on July 1, 2026. While we don’t expect any country to withdraw from the deal, we won’t be surprised if the U.S. lays a hard line in negotiating a minimum U.S. content for autos, access to the Canadian dairy market and commitments from Canada for military purchases.
The timing of the July 1 review is particularly important. President Trump needs to appear tough into mid-term elections, especially given the lack of domestic and international support for his attacks on Iran. We suspect that the absence of an immediate deal will extend a period of uncertainty during which Canadian businesses are reluctant to invest – creating a drag on the economy that has already held back business hiring and investment during the first quarter of 2026. This continues a trend of underinvestment in Canada that has plagued the country for many years (Exhibit 13).
Exhibit 13: Canada’s business investment has lagged peers
Note: As at March 31, 2026. Source: Macrobond, Deutsche Bank, RBC GAM
On a more positive note, the Canadian government seems intent on setting the economic trajectory on a more self-sufficient footing, relying less on debt-fueled government spending and instead on investing in future productivity. In April, Prime Minister Carney unveiled his ‘Canada Strong Fund,’ a sovereign wealth fund established with the goal of developing much-needed infrastructure in targeted sectors. The fund will be initially seeded with C$25 billion over three years and will grow through partnership with private investors. The establishment of a fund should provide a tailwind for the Canadian dollar as its infrastructure investments boost productivity in the longer term and also encourage greater investment within Canada over the next year or two. The demand for Canadian dollars by pensions could be especially potent, given that this segment of investors has been starved for investment opportunities domestically and has spent a decade investing abroad (Exhibit 14).
Exhibit 14: Canada has built up a large foreign international investment position
Note: As at March 31, 2026. Source: Macrobond, RBC GAM
For now, the loonie continues to trade within a tight range of C$1.35 to C$1.40 per U.S. dollar (Exhibit 15). Its tendency to follow the greenback means that it is less volatile than other currencies but benefits less than peers when the greenback declines. We think this may continue for the next few quarters as the North American trade deal weighs on business sentiment. However, a falling U.S. dollar and eventual clarity around USMCA negotiations will likely see the loonie strengthen late in 2026. We forecast the Canadian dollar to trade at C$1.30 per U.S. dollar in mid-2027.
Exhibit 15: The loonie is trading within a tight range
Note: As at June 3, 2026. Source: Bloomberg, RBC GAM
