Have you ever turned to CNBC and heard a commentator say that the dollar is up against the euro? Although this information may seem irrelevant to the everyday investor, this isn’t the case. The value of the United States dollar matters a lot for your investing decisions. It can either help or hurt the return of a particular investment.
Let’s take a look at a few ways that the value of the dollar can affect your investments and the relationship between the dollar and the stock market.
The value of the dollar is directly correlated to the stock market.
You may have noticed that the dollar and the stock market move in exactly opposite directions on a day to day basis. When the United States dollar is up, the stock market is normally down. When the U.S. dollar is down, the stock market is up. The Dow Jones and S&P 500 seem to be moving in a negative correlation to the dollar. This is strange because historically a strong dollar has been good for domestic stocks but this is no longer the case. Due to the massive amount of governmental debt and slower consumption patterns, a strong dollar seems to bring fears of deflation along with it.
A weak dollar boosts sales for multinational corporations.
Multinational companies like YUM! Brands, Nike, and Coca Cola benefit directly from a weak dollar. Since these companies derive a significant amount of their money from overseas, they are affected by the valuations of both domestic and foreign currencies. A weak dollar can actually benefit these U.S. companies. For example, let’s say a company made $50 million Eurodollars selling goods to customers on the European continent. When the Eurodollars are converted into United States, the company’s profits will actually increase.
Conversely, a strong dollar has exactly the opposite effect. It will cut into the company’s profits when the currency is converted. The best time to invest in multinational companies is when the dollar is weak because the company can maximize its profits overseas.
A weak dollar promotes expansion.
A weak dollar encourages companies to make capital investments in the United States. During these times it makes sense for domestic manufacturers to keep more of the business operations in the U.S. It also allows domestic manufacturers like U.S. Steel and Alcoa to compete against low cost producers like China. This is because the cost of foreign goods becomes more expensive as the yuan rises and the dollar weakens.
A weak dollar also encourages acquisitions. Many cash rich companies like Intel, Pfizer, and Hewlett Packard have used the weak dollar environment to snatch up competing companies at low prices. These purchases benefit investors because these investments help to boost the long term value of the company.
A weak dollar drives up metal and foreign currency prices.
When the dollar drops, precious metal prices rise. Investors abandon domestic currencies and begin buying base metals. Gold demand especially surges doing these times. Gold mining companies and companies connected to the metal see their stock prices soar to new 52 week highs.
Another way for investors to benefit is by buying foreign currencies. You can buy certificates of deposits and money market accounts in different currencies. If you think the dollar will be weak, then buy the yuan or euro. These currencies just may thrive while the dollar is down.