It should be noted that currencies fluctuate constantly. Changes are typically minor on a day-to-day basis, but trends may develop with potentially significant implications over time.
Economic impact of currency fluctuations
A positive feature of a stronger dollar is the lower cost of imported products from other countries. For example, if a car made in Germany is valued at €50,000 and then is imported to the U.S. when the dollar stands at $1.20 to €1, the retail price of the car in the U.S. would (theoretically) be $60,000 (20% more than its European price to reflect the currency exchange rate). If the dollar were to appreciate to $0.90 to €1, the car’s value in the U.S., using the same assumptions, would decline to $45,000, a significant savings for a U.S. consumer.
However, a strong dollar can also detract from revenues generated by multinational companies based in the U.S. The net income earned from foreign sales will decrease once exchanged into dollars. A stronger dollar means U.S. companies that export products abroad will be less competitive because the price of the product translated into euros or another currency is higher, which can lead to lower sales as foreign buyers shift to lower cost alternatives. The impact on the bottom line for companies trading overseas may be limited, however. “They have tools to adjust currency risk, such as locating production facilities in countries where they do business, or using currency hedging strategies to offset any unfavorable currency movements.”
Investment implications of dollar trends
Corporate earnings can be affected by currency trends. Yet Haworth says the impact of currency movements shouldn’t be a major consideration for investors as they assess the value of specific stocks. The same is not true, however, for U.S. investors who include overseas-based investments in their portfolios.
For example, consider the value of an investment in the MSCI European Union (EU) Index. Year-to-date through February 2024, the index, in local currency terms, generated a return of 5.78%. However, the net return for a U.S.-based investor in the index, translated back into dollars, was 3.62%. In other words, the stronger dollar resulted in a lower net return for a U.S investor.3 By contrast, when the dollar weakens compared to the euro, it enhances the net return for U.S. investors after the currency exchange.
“Currencies are less volatile than stocks as a whole, and their direction is challenging to predict, given numerous factors that influence relative currency values,” says Haworth. He cautions investors not to base “buy-and-sell” decisions solely on the direction of currency trends.
Future value of the dollar
Haworth says it’s not only relative interest rate policies that may give the dollar an edge in the short term. “The U.S. economy is stronger today than those of most developed countries across the globe. This can also influence currency markets and boost the dollar.” Haworth cautions, however, that varying factors come into play, often on short notice, reflecting the difficulties of trying to predict currency trends.
While currency considerations should not play a decisive role in your investment strategy, the issue may be worth discussing with your wealth management professional, particularly if your portfolio includes overseas investments. It can be beneficial to account for the ways currency trends could impact your investments and potentially influence how you choose to allocate assets within in your portfolio in support of your investing strategy.