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Key Takeaways:

• A long-standing strategy — buying U.S. assets unhedged — is unraveling as both U.S. stocks and the dollar weaken.
• Foreign institutions like pension funds, insurers, and sovereign wealth funds hold over $30 trillion in dollar-denominated assets — much of it unhedged.
• A weakening dollar compounds equity losses, turning modest declines into bigger hits for foreign investors.
• As uncertainty grows, a new currency hedging cycle is beginning to form — with potential to unleash over $5 trillion in FX repositioning.
• This change could disrupt foreign exchange markets, push up hedging costs, affect central bank reserves, and change global capital flows.
• The bottom line? When the financial whales move, they don’t just splash — they pull the ocean with them.

For years, it was a winning formula for foreign institutions:

• Convert to U.S. dollars
• Buy U.S. stocks and bonds
• Watch them outperform the rest of the world

And as the U.S. dollar rose, returns were amplified even further.

From money managers in London, pension funds in Paris, sovereign wealth funds in Saudi Arabia, and insurance firms in Tokyo — they all played this game.

But now, this trade may be unwinding.

Today, U.S. equities are slipping. The dollar is softening. And what once magnified gains is now doubling the pain.

And what's really unnerving investors isn’t just the losses - it’s the speed of the unraveling and the constant uncertainty.

These major institutions that counted on the U.S. as a safe haven are now forced to rethink their playbooks. And fast.

At the center of this dilemma is a quiet, technical concept that carries massive implications.

I’m talking about the coming cycle of currency hedging.

Let's break down what it is, why it matters, and who is most at risk.

What Is a Currency Hedge, and Why Should You Care?

Currency hedging is how investors protect themselves from FX risk - aka the possibility that exchange rate moves can eat into investment returns¹.

Here’s how it works in simple terms:

• Say you’re a European pension fund investing in U.S. stocks.
  
  
• To buy U.S. assets, you first convert euros to U.S. dollars.
  
  
• If the dollar strengthens while you're invested, great — when you convert your gains back to euros, you get even more.
  
  
• But if the dollar weakens? You could see your returns wiped out, even if the stock performed well.

That’s where a currency hedge comes in. It’s essentially locking in today’s exchange rate to avoid nasty currency swings later.

It doesn’t boost profits, but rather it protects them. Think of it like insurance, it removes one variable from an already complex financial equation.

But there’s a catch. . .

Hedging isn’t free. And for years, many institutions decided it wasn’t worth the cost and instead focused on “un-hedging”.

Seems crazy? Well, it made sense at the time.

Why “Under-Hedging” Made Sense… Until It Didn’t

For much of the past decade, global investors rode the dollar wave unhedged as U.S. markets boomed.

Why hedge when the dollar tends to rise during crises, helping to offset equity losses?

This was known as the “USD smile” — aka where the dollar would rally during both U.S. economic strength and global crises.

Here’s the idea:

1. The USD strengthens as investors seek safety in U.S. assets during global economic distress (like during 2008 or the Asian Contagion in the late 1990s).
   
   
2. The USD weakens as capital flows to higher-yielding international markets amid broad, non-U.S.-led growth (like during 2016–2017).
   
   
3. The USD strengthens again as strong U.S. economic performance and rising interest rates attract global capital (like the post-2017 rate hike cycle and first trade war).

Figure 1: Dunham, 2025

Thus, this implicit safety net made formal hedging feel unnecessary.

Or said another way, holding dollar assets was the hedge itself.

But lately, things may have broken that pattern.

Trade wars have scrambled the traditional correlations. And dollar strength isn’t a shoo-in anymore.

Now, we’re seeing periods where stocks fall, bonds fall, and the dollar falls too — a brutal trifecta for these unhedged foreign investors.

And that’s forcing some of the biggest players in the world to rethink everything. . .

The Financial Whales Sitting on $30 Trillion in U.S. Risk

Keep in mind that these aren't small retail traders. I’m talking about institutional giants — like pension funds, sovereign wealth funds, insurers, and global asset managers — that manage more than $30 trillion in U.S.-dollar-denominated assets (as of June 2024)².

Figure 2: U.S. Treasury. Gov, U.S. Liabilities to Foreigners from Holdings of U.S. Securities, April 2025

To put that in context, in 2009, that number was under $10 trillion. That’s a more than three-fold increase (especially so for U.S. stocks).

Their exposure has tripled in just 15 years — with a huge portion of it unhedged.

I like to call these institutions financial whales.

• They're massive. They move slowly. And when they change direction, the whole ocean feels it.

And now? They’re feeling the bite of being unhedged – years of betting on U.S. stocks and a strong U.S. dollar.

But a falling dollar isn’t just cutting into returns — it’s threatening long-term funding goals.

Currency Hedging Example: Why Countries Do It

Imagine you're a major European pension fund - let’s say based in Germany - with over €700 billion in assets under management.

To meet your long-term obligations - like paying pensions to public sector retirees - you need to generate a steady 7–8% annual return. That requires a well-diversified portfolio across stocks, bonds, real estate, and alternative assets.

But here’s the issue. . .

German stocks haven’t delivered strong enough returns in recent years to hit that goal. So, instead, you look abroad to the United States, which has consistently outperformed global markets over the last decade.

And that’s where currency risk comes in.

Let’s walk through a simple scenario:

• This German asset manager decides to invest in U.S. stocks.
  
  
• To do that, they must convert their euros into U.S. dollars - because you can’t buy American stocks in euros (like you can’t pay your taxes with euros or bills either).
  
  
• They choose to invest in something like XYZ stock, and over time, it grows in value – hitting their 8% annual return goals.
  
  
• Eventually, the asset manager will sell and convert the profits back into euros to cover their pension obligations (remember, they owe these German retirees euros, not dollars).

So, if the euro is weaker than it was when they first invested, great - they got more euros back.

6% Down? Try 11% - The Math of Unhedged Exposure

But what if both U.S. stocks and the dollar weaken instead? Well. . .

• If the S&P 500 drops by 6%.
  
  
• And the U.S. dollar weakens by 5% against the euro.

That German money manager doesn’t just lose 6%. They actually lose 11% in euro terms.

That's a brutal hit — wiping out years of gains needed to make good on money it owes pensioners.

Now, multiply that scenario across trillions in global assets, and it becomes quite clear how dangerous this could be.

The Hedging Surge Is Coming

Because of this weaker dollar, these institutions can’t afford not to hedge their currency risk, which will eat into their profits.

• An unintended consequence of this could push these money managers into riskier positions for higher returns by trying to offset the cost of these hedges (which could prove dangerous).

Wall Street has already started to notice this trend.

According to State Street data, just 23% of foreign financial whales are currently hedged — well below the pre-pandemic norm of 45–50%³.

Figure 3: Bloomberg, April 2025

If those ratios begin to normalize, analysts estimate we could see $5 trillion in additional dollar exposure get hedged — a tidal wave of demand for FX contracts, forwards, and options while boosting foreign currency values as well.

That kind of change doesn’t happen quietly. It could fuel a major shakeup in global currency markets — driving up hedging costs, pushing spreads wider, and adding volatility across asset classes.

• It could also severely impact many export-driven economies, as a stronger currency would dampen their exports and likely widen their trade deficits. I covered this dynamic in more detail in a recent article, From Trade Wars to Currency Wars: Why the Real Global Economic Fight Is Just Beginning.

 But Hedging Isn’t Cheap

Just because the risk is rising doesn’t mean hedging is easy. For example:

• Swiss franc and yen-based investors face hedging costs of 4%+ annually.
  
  
• Euro-based investors still face 2–3% costs.

That’s a pretty big drag on returns — especially in a low-yield world as interest rates come down. Meanwhile, as volatility spikes, the cost of options-based hedging gets even worse.

So now these institutions are caught between two rough choices:

No option is perfect. But one thing is clear: doing nothing is no longer an option.

Why This Matters for Everyone

You may be thinking, “So what, these institutions make a little less to hedge. Is it that big of a deal?”

I agree with the sentiment. But it isn’t just a niche problem for institutional traders.

Because when $30 trillion of capital starts rebalancing, it affects every global market, currency, and economy. Rapidly changing hedging behavior can ripple through:

• FX liquidity and volatility
• Central bank reserve strategies
• Demand for U.S. treasuries and dollar-denominated debt
• Cross-border capital flows

The “dollar as a safe haven” narrative is being rewritten in real time.

• I wrote more about this potential global reset — how we could be moving from a strong-dollar world to a weaker one, and what history tells us might come next — in The Coming Global Monetary Reset: What History Tells Us and What Might Be Next.

Thus, as these financial whales react, the aftershocks could greatly affect global markets - from FX desks in Frankfurt to pension funds in Tokyo.

Final Thought

We’re entering a new phase of global finance — one where currency risk, once largely shrugged off, is coming back with a vengeance.

As institutions rethink decades-old assumptions, the ripple effects won’t be subtle.

Because when these whales move, they don’t splash.

They pull the ocean with them.

FAQ – What This Means and Why It Matters

Why is the U.S. dollar falling right now?

Because the story’s changing. Slower U.S. growth, cooling rate hike expectations, ballooning deficits, and a shift in global capital flows are all weighing on the dollar. The old "safe-haven" playbook isn’t holding up like it used to.

What exactly is a currency hedge — and why now?

A currency hedge locks in the current exchange rate to avoid getting whipsawed later. It doesn’t boost profits — it preserves them. And in a world where both the dollar and equities are sliding, protecting downside matters more than ever.

Who’s feeling the pain the most?

Big institutions. Think: European pensions, Japanese insurers, Middle East sovereign wealth funds. Collectively, they hold over $30 trillion in dollar-denominated assets — and most of it is unhedged. When the dollar drops, they bleed.

How under-hedged are we talking?

Right now, just 23% of foreign-held U.S. exposure is hedged. That’s less than half of what it was before the pandemic. If this shifts back to historical norms, we could see over $5 trillion in FX repositioning. That’s not a ripple — that’s a wave.

What happens if everyone starts hedging at once?

You get a storm in FX markets. Hedging costs spike. Volatility climbs. Currency values shift. Exporters feel the squeeze. And risk starts to get repriced globally. This isn’t just a back-office currency story — it’s a capital flow earthquake in slow motion.

Sources:

1. ​What is currency hedging? | RBC
2. Report on Foreign Portfolio Holdings Of U.S. Securities at End-June 2024
3. Foreign Investors Face Bigger S&P 500, Nasdaq Losses as Dollar Slides - Bloomberg

Disclosures:

This communication is general in nature and provided for educational and informational purposes only. It should not be considered or relied upon as legal, tax or investment advice or an investment recommendation, or as a substitute for legal or tax counsel. Any investment products or services named herein are for illustrative purposes only and should not be considered an offer to buy or sell, or an investment recommendation for, any specific security, strategy or investment product or service. Always consult a qualified professional or your own independent financial professional for personalized advice or investment recommendations tailored to your specific goals, individual situation, and risk tolerance. All examples are hypothetical and are for illustrative purposes only.

Information contained in the materials included is believed to be from reliable sources, but no representations or guarantees are made as to the accuracy or completeness of information. This document is provided for information purposes only and should not be considered as investment advice.

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