After declining for more than three years, the dollar has been rebounding, gaining against every major currency, especially against the euro. Is it just noise or a genuine trend? We believe that it is the later, driven by three factors:
1. Moderate U.S. growth. Judging from recent data on retail sales, payroll growth, manufacturing orders and consumer confidence, the U.S. is expected to grow at moderate rates in the near future, vis-à-vis Europe that is expected to remain flat at best.
2. Easing of concerns over the financial health of the U.S. banking system, fueled by the publication of the results of the recent bank test.
3. Monetary tightening in emerging countries is over. Monetary tightening has begun to slow down inflation and economic growth in emerging markets, which is bearish for those currencies, though China and India have been reversing course lately.
What does an uptrend for the dollar mean for financial markets?
While a stronger dollar may be beneficial for U.S. equities in the long-term, it is a negative for the overall market in the short term, as investors have begun to unwind long positions, especially the sectors that benefited from the falling dollar:
1. Sell Exporters. Stocks of major U.S. industrial and technology companies that draw a great deal of their sales from overseas are also vulnerable to a stronger dollar. Caterpillar (CAT), for instance, lost 3% on Monday's early trade. Cisco Systems (CSCO) lost 2.41%; Intel (INTC) 4% (the company lowered its guidance); and Applied Materials (AMAT) 5.15%.
2. Sell Precious Metals. For more than two years, precious metals had everything going their way: Ultra-accommodating monetary and fiscal policy, a falling dollar, a growing world economy, inflationary expectations, and soaring sovereign debt. iShares Silver Trust (SLV) is up 250% since early 2009; SPDR Gold Shares (GLD) is up 100%; and Freeport-McMoRan Copper and Gold (FCX) soared 200%.
3. Stay away from U.S. Treasuries and Treasury ETFs like AGG, BND, LAG and TLT. A stronger economy is bad news for Treasuries, especially at a time when they trade at record low yields.
4. Buy domestically oriented companies like homebuilders Lennar (LEN.B), Toll Brothers (TOL) and D R Horton (DHI) and healthcare stocks like Aetna (AET), and Cigna (CI).
Disclosure: I am short GLD, SLV.
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