The US dollar has recovered 50% of its losses from mid-January, and this could severely hamper the United States’ economic recovery, that’s the main takeaway from a new research report from Credit Suisse sent to clients today.
Strong dollar is yet another risk to earnings growth
From the beginning of January to around the middle of April, the US dollar Broad Index, declined by around 6% as the market began to price in a normalisation of the interest rate cycle and faster economic growth overseas. However, since mid-April the Fed has failed to convince markets that it’s hiking cycle is in place, instead markets appear to be convinced that the Fed will maintain its dovish stance as uncertainties around the world grow. This is fuelling a rising demand for dollars.
Indeed, data weakness across the euro area is leading to some gravity impact on rates, creating renewed spread divergences which in the case of US-UK spreads has hit a multi-decade high. Meanwhile, it’s widely assumed that the Bank of Japan will bring a combined fiscal and monetary “bazooka” at some point in the near-term. This is turned the USDJPY into a “clear buy dips story for now and is allowing that pair to help re-inforce strength in the broader USD.”
So what does all this mean for investors? Well the so far the high dollar has held back the Fed’s effort to stimulate demand in the US economy. As the dollar weakened earlier this year, it looked as if the Fed might have some respite from this uncontrollable force but now it seems as if policymakers are going to have to deal with the strong dollar for a lot longer, which could mean the central bank’s dovish attitude is here to stay until overseas risks dissipate and investors start selling dollars in favour of risk assets.
Commodity investors are likely to feel the most pain as commodity prices rise in dollar terms, possibly piling further stress on an already stressed industry with many key commodity markets already oversupplied.
Companies outside the commodity industry are already blaming the strong dollar on weak second-quarter earnings figures. Philip Morris claimed earlier this week that currency exchange rate fluctuations trimmed sales by $300 in the second quarter. According to research from Bank of America, a strong dollar will work to curb earnings growth across the S&P 500 during 2016. After a tailwind of four percentage points during 2016, Bank of America now expects the strong dollar to detract one percentage point from S&P 500 EPS growth during 2016. On a dollar basis, the bank now expects EPS of $117 for the S&P 500 for 2016, flat year-on-year and EPS growth of 7% to $125 for 2017.