The US dollar has been the currency of reference for the world since 1985 when President Reagan declared that “dollar strength reflects fundamental forces.” It gets a lot of attention, and it should. Big changes in dollar strength can have big economic effects at home and around the world. The strong dollar was called into question last week in Davos and emerged unchanged. What will investors be looking for the dollar to do in 2018? Here’s our checklist.
Where are we now? With declines over the last year, the dollar has reached a value-neutral level in January 2018. Another way to say this is the dollar is right in the middle of its value range for the last five years.
For all the headline-grabbing and hot currency talk, there really isn’t anything too extreme to say about the dollar right now. It’s neither high or low. It’s in the middle. For US investors a middling dollar in 2018 has a positive effect on their non-US investments. They get the investment appreciation and a little extra from currency return.
The risk impact of the dollar is easiest to see at the extremes. At one extreme is a very cheap dollar (80 on the index, like we saw in 2011). A cheap dollar will lead to a booming US economy and a favorable trade balance, perhaps even a postive one. The portfolio effect for an investor is likely to be higher US stock prices and lower US bond prices.
At the other extreme is a very strong dollar (100 on the index, as in 2017). The portfolio effect for the investor is likely to be lower non-US stock prices and higher bond prices.
Note that it’s possible and desirable for your advisor to model the dollar extreme impact on your portfolio. The dollar’s strength is not inherently good or bad for you — it depends what you own. The vitality of the dollar also affects the cost of foreign travel and other goods and services.
Alarmists are saying the dollar is going down and that a decline reflects a decline in the value of America. We’re skeptical. A dollar decline is most unlikely this year and next. The signs and supports are pointing to strength, not weakness. The signs are higher interest rates, a strong economy, and surging profits. Fed rate rises are likely in March, June or September. GDP reports and revisions come every 45 days. They have been consistently up. For surging profits look to oil, technology and financials for every quarter this year. They are virtually baked in, absent a highly unlikely recession.
The most important step you can take is to know your US versus non-US investment mix. If you or your advisor know the daily mix you are fully prepared for the dollar’s wiggles in 2018. We strongly suggest that at least 65% of your investment assets be dollar-based, because the dollar is where you earn your money and where you spend your money. If you are not dollar balanced, please email us.
– John Osbon