Concerns about artificial intelligence expose the hot money issue of the US dollar

Karen Brettell

Reuters, October 28 - For a long time, investors have viewed the dollar as a safe haven during market downturns, but the dollar’s safe-haven status may be challenged if foreign capital chasing AI boom profits starts to leave.

Large amounts of foreign capital have poured into U.S. mega-cap stocks, large-scale tech corporate bonds, and grid infrastructure sectors. This has made the dollar a popular choice for betting on “U.S. exceptionalism,” underpinned by faster economic growth, higher yields, and sustained foreign demand for U.S. assets.

But if the artificial intelligence narrative falters, the dollar’s role as a haven might conflict with its growing importance as a risk-sensitive asset—an asset increasingly held by price-sensitive investors. Prolonged selling in the stock market could prompt investors to dump U.S. assets, potentially overwhelming demand for the dollar as a safe haven.

Dominic Bunning, head of G10 FX strategy at Nomura, said if AI trades are unwound, "it’s much less clear that the dollar would benefit like in the past."

A "Storm Warning" in FX Flows

Early warnings were seen last week (link). As AI sector valuations came under pressure, safe-haven flows favored the yen and Swiss franc over the dollar. The dollar barely edged up against the euro, mainly because the euro was being pressured by fears of social unrest in France.

“When AI trades are under scrutiny, its relationship with the dollar becomes much more apparent,” said Kevin Forde, chief FX and macro strategist at Convera.

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Foreign inflows into the U.S. stock market are at record highs, while foreign direct investment lags behind. Most of this money comes from institutional investors, who may buy and sell based on reassessments of U.S. economic growth, interest rates, or tech stock valuations.

Erik Nelson, Global Head of FX Strategy at Wells Fargo, likens these allocations to “hot money” flows that dominate emerging markets. Analysts say the AI craze has reinforced market expectations for stronger U.S. growth, firmer inflation, and higher rates, pushing both the dollar and Treasury yields higher.

“The whole wave of AI trades repriced U.S. rates higher, which propelled the dollar,” said Noah Baffam, FX strategist at CIBC Capital Markets.

If returns disappoint, capital outflows could hit the equity, credit, and rates markets, exposing the dollar to three-way risk.

Slower economic growth could force the Fed to cut rates, undermining the dollar’s yield advantage. A slowdown in domestic investment would deflate the “U.S. exceptionalism” narrative. Meanwhile, reduced institutional demand for U.S. corporate debt and equities would erode a key structural support.

To date, investors have been willing to buy on dips, suggesting any sustained weakness may take months or even years to play out.

Lessons from the Dot-Com Bubble

Nelson noted that a stock market crash alone does not automatically drag down the dollar. After the Nasdaq peaked in March 2000, the dollar remained firm for nearly two years until the collapse of companies like WorldCom hit the U.S. credit market, combined with factors like a rebound in global economic growth, which finally turned the dollar lower.

But the current AI build-out is even more U.S.-centric. Nelson pointed out that, based on data since 1973, the dollar’s real trade-weighted index has stayed above its long-term average for 12 consecutive years—a record streak. Compared to 2000, foreign inflows are now more concentrated in equities and corporate bonds, with foreign direct investment relatively subdued.

If infrastructure investments fail to deliver returns, credit spreads may widen, forcing AI firms to cut capital expenditures. This could ripple through the economy, reducing demand for industrial equipment, hardware, and energy.

Market worries over high-risk AI segments—such as heavily indebted emerging cloud companies (including CoreWeave (link) CRWV.O)—have caused credit default swap spreads to surge in recent weeks, adding to stock market pressure.

“From what we’re seeing in credit-default swaps, this risk is showing up at the margins,” said Shaun Osborne, chief FX strategist at Scotiabank.

Unlike the fiscal surpluses seen at the peak of the 2000 tech bubble, Washington now faces huge budget deficits. This narrows the government’s room for counter-cyclical stimulus without risking turmoil in debt markets.

Sensitivity Under Pressure

For Nelson, the key signal is not just whether U.S. tech stocks decline, but whether that stress morphs into a credit and growth issue unique to the U.S., altering market expectations around Fed policy. In that scenario, the yen could benefit at the dollar’s expense, and the shift could further impact markets already potentially under stress.

That doesn’t mean a weaker dollar is inevitable. If a shock is severe enough to spark a rush for dollar funding, the greenback could actually strengthen at first. In 2008 and March 2020, investors scrambled for dollars to pay off dollar-denominated debts, prompting a strong but brief buying surge.

In any case, some investors believe that since April 2025, when U.S. President Donald Trump (link) announced broad-based tariffs triggering a market rout, the dollar has returned as one of the biggest risk factors.

“Global investors are extremely sensitive to any big re-pricing or sell-off in the dollar,” Nelson said. “As we head into ‘27, I think this is a real weak spot for the dollar and worth watching.”

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