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While several fears have weighed on stocks this year, a key headline this autumn has been the strong dollar. Allegedly, this is a huge risk not only for countries battling weaker currencies, but for US stocks, too, as it weighs on multinationals’ earnings. Yet Fisher Investments’ reviews of currency swings show this theory doesn’t hold, with the dollar’s wiggles having no pre-set market impact.  

When analyzing relationships between two variables, Fisher Investments reviews market history—not just the actual market movement, but the backdrop of current events and sentiment at the time. In doing so, we find the dollar tends to rise for two general reasons. The first: All else equal, money flows to the highest-yielding asset. As the Fed hikes its benchmark rate and longer-term US Treasury yields rise, dollar-denominated assets become more enticing than their international counterparts, attracting capital worldwide. This year, 10-year US Treasury rates rose from 1.5% to 4.0% as of mid-October, and as we write, they pay more than all developed-world 10-year government bonds except Australia, Italy and New Zealand.[i] Compounding this is the second force: The dollar has a long history of being the world’s preferred safe haven during uncertain times. The US has strong credit, with deep and liquid capital markets, giving it the greatest ability to satisfy global demand for a store of value. Hence the dollar soared during 2008’s global financial crisis and 2020’s COVID lockdowns, and now it is up in 2022 during global stocks’ bear market.

When the dollar strengthens, Fisher Investments regularly sees pundits dusting off a favorite warning: US-based multinational companies’ earnings are in danger. They argue a strong dollar will hurt revenues—either because steady sales will be worth less when converted to USD or because raising prices abroad to offset the currency move will shrink their market share. Ergo, if revenues fall, earnings will suffer. While this might seem sound, it ignores the other big ingredient to earnings: costs. Few companies use only parts and labor from their home country. Most companies import components and raw materials and engage in overseas production. Thus, as the dollar strengthens, imported labor and input costs become more affordable.

There are other offsets, too. Companies often hedge for currency moves, dampening the impact currency swings might have on earnings. Additionally, the impact that does show in top-line results is often little more than an accounting entry, as companies often don’t repatriate overseas earnings—which is the only time market exchange rates would realistically apply. For this reason, companies will often report “constant-currency” earnings alongside headline numbers that use generally accepted accounting practices. For constant-currency earnings, companies apply a fixed exchange rate to each currency. In so doing, they provide investors with a figure that better illustrates core earnings trends without currency skew. So while Fisher Investments’ reviews of corporate earnings calls find that the dollar often gets some blame when earnings disappoint, it is like the weather. It is a common scapegoat, but it has much less power than investors and pundits perceive.

If it were true that the strong dollar is always and everywhere bad for corporate earnings, we would expect stocks to do poorly as the dollar strengthens. After all, a stock is a share of a company’s profits. Yet Fisher Investments’ review of the relevant market data shows there is just no relationship between the dollar and stocks. Of the 199 quarters since the dollar began trading freely against other currencies in March 1973, the S&P 500 rose 140 times.[ii] Of those 140 quarters, the dollar was up 78 times and down 62 times—practically a coin flip.[iii] Meanwhile, the S&P 500 was down 58 times.[iv] Of those 58 quarters the dollar was up 40 times and down 18.[v]

Now, a calendar quarter is a bit of an arbitrary marker, and many currency cycles are a lot longer. So Exhibit 1 gathers every period where the dollar had a sustained move of 10% in either direction, notwithstanding some wiggles along the way, and compares the dollar’s movement against the S&P 500’s cumulative total return in each. Using monthly returns, Fisher Investments finds there is no relationship. There are long stretches of bull markets with weakening and strengthening dollars alike. Moreover, even this approach glosses over stocks’ cyclicality. For example, while the S&P 500 cumulatively fell as the dollar strengthened from early 2018 through March 2020, that stretch includes a very strong 2019—it was merely sandwiched between a correction (sharp, sentiment-fueled decline of -10% to -20%) in 2018 and the lockdown-induced bear market (typically a longer, deeper decline below -20% with a fundamental cause) in 2020. Stocks’ and currencies’ peaks and troughs just don’t line up.

Exhibit 1: Dollar Value Vs. S&P 500 Returns

Source: FactSet, as of 10/17/2022. S&P 500 total returns and Nominal Trade-Weighted US Dollar Index (Broad), 3/31/1973 – 9/30/2022. All calculations use month-end data.

From Fisher Investments’ reviews of market history, while the dollar itself isn’t a market driver, fear of it is often telling about investor sentiment. Whether the dollar is weak or strong, when sentiment is negative, people will fear its wiggles. That is the case today, making currency worries’ prevalence more evidence that we are just in a fearful environment in general—the kind of environment where bull markets are often born.

Investing in securities involves a risk of loss. Past performance is never a guarantee of future returns. Investing in foreign stock markets involves additional risks, such as the risk of currency fluctuations. The foregoing constitutes the general views of Fisher Investments and should not be regarded as personalized investment advice or a reflection of the performance of Fisher Investments or its clients. Nothing herein is intended to be a recommendation or a forecast of market conditions. Rather it is intended to illustrate a point. Current and future markets may differ significantly from those illustrated herein. Not all past forecasts were, nor future forecasts may be, as accurate as those predicted herein.

Sources:
[i] Source: FactSet, as of 10/17/2022. US 10-year Treasury yield, 12/31/2021 – 10/14/2022.
[ii] Ibid. S&P 500 Index total returns and Nominal Trade-Weighted US Dollar Index (Broad), quarterly, 3/31/1973 – 9/30/2022.
[iii] Ibid.
[iv] Ibid.
[v] Ibid.

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