How Does a Stronger U.S. Dollar (USD) Impact Consumers and Investors?
The trend of a strengthening USD along with recent price declines in many commodities is helping reshape our investment thinking and how we want to position portfolios. These recent dynamics are being caused by a divergence of monetary policy from key central banks around the world. The U.S. Federal Reserve is beginning to remove monetary stimulus, while at the same time the European Central Bank and the Bank of Japan are aggressively ratcheting-up their easy money policies in hopes of spurring economic growth. While we see many investment opportunities overseas, we also want to be ever mindful of currency risks, so we’re evaluating ways to hedge portfolios against a stronger USD.
A stronger USD can be beneficial for the U.S. consumer:
- The cost of import prices decline when the USD strengthens making foreign goods cheaper to buy.
- It’s less expensive to travel overseas since our dollar has greater purchasing power.
- Since commodity prices are priced in USD, inflation should remain tame. For example, with the recent slide in oil prices, consumers are now seeing declines in gas prices at the pump. This creates a quasi-tax cut, putting more money into the pocket of consumers. In theory, this should be positive for U.S. economic growth.
A stronger USD creates headwinds for U.S. investors holding foreign assets:
- When international investments denominated in a foreign currency are converted back to a stronger USD, returns are reduced.
- Large capitalization, multinational U.S. domiciled companies, who export products overseas, will face headwinds as prices for their exported goods increase and as they convert foreign earned revenue back to USD’s at a depreciated rate.
- Emerging Market (EM) countries that are commodity producers/exporters will face economic growth challenges since commodities are priced in USD.
- Investors who had been searching for yield in EM countries could begin shifting their asset allocations back in favor of more traditional U.S. centric investments as interest rates begin to rise.
There are always opportunities:
- Many international equity markets (both developed and emerging) are trading at a discount to their historical averages and at a discount to U.S. equity prices. We believe today’s attractive international stock valuations will ultimately reward patient, long-term investors.
- Some foreign bond investments offer higher interest rates today than what can be earned from U.S. fixed income investments.
We continue to evaluate a variety of ways to reduce currency risk with our international holdings while at the same time seeking to benefit from favorable international equity valuations and higher interest rates.Sources: JP Morgan, American Century Investments and Envestnet
Posted: December 16, 2014
Authored by: Chad A. Sander,CFP®
Direct Phone: 812-602-6302
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