The US dollar looks shaky. Aside from some kind of currency meltdown, a weaker dollar should be positive for stocks, although foreign stocks are likely to benefit more, analysts said.
The ICE US dollar index
A measure of the currency against a basket of six main competitors fell 1.6% last week and, according to FactSet, hit a 22-month low on Friday below 94.40.
This happened after an intraday high of more than three years was reached on March 22, just under 103, a day before the S&P 500 stock index
hit rock bottom during the worst coronavirus pandemic. When the dollar eased, stocks recovered strongly. The S&P 500 was now just under 5% below its all-time high of February 21 after falling 34% earlier this year.
It can be confusing for investors to know exactly what to do with the dollar. After all, a weaker dollar is usually seen as positive for the US economy and for large multinational companies that generate a large proportion of their revenues overseas, but bear most of their domestic costs. However, stocks have performed well during the recent dollar bull markets, which reflect the strength of the US economy compared to the rest of the world.
And a weaker dollar isn't necessarily good for stocks if it reflects major domestic problems.
Both the dollar and equities lost ground last week, and the currency was not a safe haven due to the tensions between the US and China. The S & P 500
fell 0.3% during the Dow Jones Industrial Average
decreased by 0.8%.
In the long run, however, the dollar and stocks showed a slightly negative correlation, which means that a weaker dollar was only marginally good for stocks. The correlation between the trade-weighted broad dollar index and the S&P 500 has been -0.2 per month since 1973, said Jeffrey Schulze, investment strategist at ClearBridge Investments.
However, this inverse relationship has been much stronger recently. Since 2000, around the same time that China joined the World Trade Organization, the correlation has been -0.35, Schulze said.
In the meantime, it's important to remember that the performance of a currency reflects market participants' views of a particular economy's prospects compared to others.
"A weaker dollar does not necessarily reflect a weak US economy, but rather a stronger global economy," Schulze said in an interview with MarketWatch. While this doesn't mean fate for US stocks, they are likely to lag behind their global counterparts in the next six months, he said.
US stocks may be particularly vulnerable to underperforming Europe, where the COVID-19 pandemic appears to be largely under control. European politicians also finally got together last week and reached an important milestone in the form of a massive spending and bailout plan, while the European Central Bank aggressively gave monetary policy stimulus. The Euro
The weight of around 19% against the dollar in the trade-weighted index rose and rose 1.8% last week to trade at a 10-month high above $ 1.16.
In fact, the stronger euro, which rose 3.6% in July, continued to recover, despite US and global stocks ending the week in a downtrend. This could be a sign that investors are starting to see the euro from a different perspective and may see it as the next safe currency, Paresh Upadhyaya, director of currency strategy at Amundi Pioneer, said in an interview.
The reasoning for underperformance in the U.S. is also supported by a look at the negative correlation between the dollar and non-U.S. stocks, which is stronger than the relationship between the currency and U.S. stocks, said Gaurav Saroliya, director of macro strategy Oxford Economics. in a Thursday note (see table below).
Some economists have warned that the dollar could disintegrate quickly and alarmingly, quickly undermine its status as the world's reserve currency, and send shock waves through financial markets as the U.S. struggles to control the COVID-19 pandemic.
Read:The decline in the US dollar could happen at "warp speed" in the age of the corona virus, warns the well-known economist Stephen Roach
Saroliya argued that the dollar is unlikely to suffer from such a bleak scenario, noting that the currency has seen previous bear markets in the 1970s, late 1980s, and mid-2000s and is also the world's leading reserve currency.
"Far from destabilizing global markets and the economy, these growth episodes have been quite positive," he said, noting that the reverse relationship between the dollar and global economic growth has been through most of the 1970s Era of free-floating exchange rates persists While periods of rapid dollar appreciation threaten global financial stability rather than large dollar declines.
The behavior of the dollar during the peak of global market turmoil triggered by the pandemic earlier this year underlined the role of the currency as a haven.
Nicholas Colas, co-founder of DataTrek Reseach, noted that the trade-weighted dollar index peaked on the same day that the S&P 500 bottomed out in both the 2008/09 financial crisis and the coronavirus panic earlier this year. On March 9, 2009, the index closed at 106.01, a level that it did not return to until 2015, while the index reached an all-time high of 126.47 on March 23 this year. It has dropped more than 5% since then.
The perception is: "A weaker dollar is confirmation that global investors feel that the worst COVID crisis is over and confirms the rally for stocks outside of the lows in March," said Colas. "In other words, don't worry that a weaker dollar is a warning sign of a sudden drop in US stocks. History shows the opposite. "