We had two watershed moments this week in financial markets. The Dow Jones Industrial Average hit 22,000 for the first time in history and the U.S. dollar fell to a new, 15-month low on a trade-weighted basis. The dollar has now put together its longest losing streak since 2011.
These moves have been so pronounced that it really makes us wonder: What is going on?
After the 2016 election we saw similarly strong moves, except that at that time, the U.S. dollar was strengthening rather than weakening.
So why the change now?
When the dollar weakens at the same time equity markets are rallying it is part of a “risk-on" trade: Investors are ready to seek higher returns, which requires taking higher risk, so equities are one of the first places money flows.
Meanwhile, the dollar drops because cash-rich U.S. investors look to international assets to get a higher yield. To buy those foreign assets, U.S. dollars must be sold in exchange.
But the trend we're seeing today seems like the dollar and the U.S. equity markets are dancing to two totally different drummers.
Equity markets are reacting favorably to recent corporate earnings and, frankly, ignoring the cacophony coming out of Washington. Meanwhile the dollar lags behind currencies from other countries that are seeing short-term interest rate boosts that make them more attractive destinations for investment.
One thing we're watching for is how the dollar will affect corporate earnings in the fourth quarter. Earnings forecasts are not anticipating a weak dollar, which could boost export revenues. We always hear warnings from companies when there's a strong dollar that portends doom and gloom for international sales, so why aren't we getting warnings from the other side now?
Is there skepticism about the weak dollar persisting – or is there an “under- promise, over-deliver" mentality taking hold? There is no way to know.
Our View: We think that this downward move in the dollar is looking a bit overdone and may change soon - although we do not think we will see anything like the strong performance of the greenback after the election.
As to equities, our City National Rochdale colleagues see continued U.S. stock market strength - although they note it cannot continue forever.
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