Level 4-Should a Shrinking Dollar Worry You?, WSJ, by Jason ZweigSep 12, 2009
The dollar is falling. Is the sky falling, too?
As of this week, a dollar would buy only 0.68 euro, down from 0.80 in March and a peak of 1.21 in 2000. The greenback slid against other major currencies as well.
That may be a problem for investors. If most of your assets are in dollars but much of the goods and services you consume are priced in other currencies -- say you like imported cars or regularly vacation abroad -- your future spending needs have just gotten harder to fund.
Fortunately, it's not that hard to protect against further erosion in the dollar. And not all investors need to take action. Hedging would be vital, quips Campbell Harvey, an economist at Duke University who edits the Journal of Finance, "if your mortgage is denominated in euros." But if you make your money in the U.S. and spend it in the U.S., a falling dollar isn't the end of the world. Thus, the slide in the greenback need not prompt every investor into urgent action, but it is an ideal pretext for asking whether you are globally diversified.
Three cures are most commonly prescribed for investors worried about a weakening dollar: foreign currency, gold or a diversified basket of commodities.
Trading foreign currencies like Australian or Canadian dollars, both tied closely to commodity prices, sounds appealing. But foreign-exchange trading usually relies on high margin, or leverage, which is risky, and gains are taxed at hefty rates. So an individual investor has to be really right to rationalize doing it, says Mark Kritzman, who helps oversee more than $25 billion at Windham Capital Management in Cambridge, Mass.
As for gold and other commodities, they have provided an average return of around 20% in the four quarters following the worst drops in the value of the dollar, according to Michele Gambera, chief economist at Ibbotson Associates.
Surprisingly, these glittering returns look tarnished next to those of stocks and foreign bonds. On average, based on more than 20 years of returns, Mr. Gambera found that in the four quarters following the steepest declines in the dollar, U.S. stocks go up 25%, various baskets of international bonds gain between 21% and 28%, and non-U.S. stocks go up more than 56%.
So, with many commodities near record highs, there may be no need to join the stampede into gold or most other hard assets.
If the dollar keeps dropping, stocks and bonds priced in euros, yen, rubles or shekels will tend to become more valuable; anything denominated in foreign currency will then buy more dollars. That's why, for U.S.-based investors, international stocks and bonds tend to outperform commodities when the buck falls. Global diversification thus provides an automatic buffer against a dollar drop, unless the fund managers have hedged the holdings back into U.S. currency.
By the same token, big American companies that earn much of their revenues outside the U.S. may do better as the dollar drops; kronor and rupees will then convert into a greater number of greenbacks, putting more profit in U.S. shareholders' pockets.
But raising your overseas holdings can make sense even if the dollar stops falling. U.S. stocks represent less than half of the total value of equities world-wide, and yet American investors keep more than 70% of their stockholdings here at home. Although roughly two-thirds of the world's debt is outside the U.S., American investors have less than 4% of their fixed-income portfolios in foreign bonds.
For many years, I've kept half of my stockholdings outside the U.S. The more convinced you are that the dollar will fall, the more you should hold in international stocks, ideally through a low-cost index fund that doesn't hedge currencies. Even if your view on the dollar turns out to be wrong, you will end up with a better diversified portfolio.
I don't have any foreign bond funds myself; I was turned off long ago by their risk and illiquidity. But choices are better today. If you are especially worried about Uncle Sam, consider T. Rowe Price International Bond or, if you can avoid the sales charge by going through a discount broker, the Class D shares of Pimco Foreign Bond (Unhedged). SPDR Barclays Capital International Treasury Bond, an exchange-traded fund, is another good choice, but only if you can find a discount broker that won't charge commissions to reinvest your interest income.
Over the course of time, currency fluctuations tend to wash out. And even a long-term decline in the dollar might not be disastrous; since 1950, South Africa has had one of the world's weakest currencies, but one of the best-performing stock markets. The dollar is falling, but the sky isn't.
QUESTIONS: 1. (Introductory) By how much percentage did the U.S. dollar fall against the euro since its peak in 2000?2. (Advanced) What options are available to investors to protect them against a weakening dollar?3. (Advanced) How do big American companies with overseas earnings benefit from a falling U.S. dollar?4. (Introductory) Does a weak U.S. necessarily imply it is a bad for U.S. stock markets over the long period of time? Why?
19 comments:
The dollar is losing value because we don't save enough. While we have always had a low marginal propensity to save, the problem became exacerbated in this easy leverage era.
Globally diversifying your portfolio seems to be the best solution to counteract the fast fall of the greenback. Out of the three cures mentioned in the article: foreign currency, gold, and diversified commodities, investing in foreign stocks and bonds is the best choice in this economy.
I agree with Peter, Zweig seems to think that as one diversifies their portfolio the less harmed they will be by the falling dollar. He also believes that foreign bonds will be profitable. He does however think that investing in foreign currencies such as the Australian and Canadian dollar would be a bad investment. But all in all global diversification acts as an automatic buffer against the falling dollar.
- Dan Hill 1st period
In the article, you stated that there was a direct relationship between a person's fear of the dollar falling and the amount they should have in international stocks, but you stated that you personally have stayed away from international stocks due to their risk and illiquidity. Therefore, a person must weigh how far the dollar might fall with the risk of international stocks. Neither option creates a foolproof situation, so it really just comes down to personal preference.
-Daria Taylor p.1
I am gonna also agree with Peter. Globally diversified portfolios look to be the best solution to the falling dollar. I would probably invest with diversified commodities over gold and foreign currencies.
-Joe Wierzbicki Per 5/6
I also agree with Peter as well as "economics".
On Peter, diversifying your portfolio is always the best solution. For example, one would never want to invest all their money in one type of stock. This is because it is very high risk. Diversifying takes away that additional risk by spreading you money into many different types of stock.
On "economics", saving is crucial. To be more specific, those who want to save money should save it in banks. Saving money by hiding it under your bed will only hurt the economy. By saving your money in a bank, it will help the economy by supporting banks so they can loan it, therefore cycling money into the economy to help it grow once again.
Jackie Labayen, P. 5/6
In response to "economics", I feel it is necessary to specify we are not saving enough money in banks and other institutions that can use our money to invest into the economy. Simply saving our money in a piggy- bank or household safe will not benefit the United States economy. As for the consumer, I also agree with the consensus that the best course of action is to invest in international companies.
-Kirk Andrese p. 5/6
There are issues and risks with investing anywhere but why would you not invest more in foreign markets when it has been shown that after a dramatic drop those markets improve by 56% as opposed to 25% in US markets. This article overall states many more reasons to invest overseas than in the U.S. with significantly fewer risks than investing in the U.S.
If I were to be an investor I would invest small portions in many different stock options. Eventually stocks will rise again, proven by history, and the US economy will be on top. International companies do seem like a very intelligent stock option as well. Kirk I like your comment about the piggy banks.
Robert Deptula P#1
I agree with Daria. While foreign currency seems like a wise choice in today's economy, there are many risks that go along with these types of investments. Therefore, in order to make a good decision, one must do research as to how far down the dollar will fall. From there, one can make a personal decision as to what they will invest in. If one does not invest in foreign currency, they should look at other options such gold or other commodities.
After reading the Blog entry, investing in gold doesn't seem like the answer. Instead, I was swayed towards foreign stocks. By spreading your money out into a variety of markets, you wont risk all of it in the United States. If the dollar fails, your finances can be backed-up by foreign investments.
While "Economics" says that the problem is that we don't save enough, if we stop spending, then the economy will slow down. With a falling dollar it is essential to invest in stronger, forein markets as well as spreading your money over a variety of stocks. I like what Daria said about there being risks either way. In order to profit you need to take the risks, but you must also be aware of the consequences.
-Alex Economou, period 1
If I were to view this article through the eyes of an investor I would be tempted to wait a little before investing in the foreign market. I say this because although foreign markets like China and other countries have the future potential of being financial powerhouses, they will first have to develop the nation and recover large amounts of debt. So I believe it would be wise to stay invested mostly in America even with the diminishing dollar, and try to predict and time when to invest heavily into the foreign market in hopes of "hitting it big" and receiving large profits as the foreign markets bloom rapidly. As stated before, with risk comes reward.
Well said Sully Fox, but I believe since the USA stocks have less than half of the world value it does not seem as big a deal to invest now or later in foreign companies. Since so many companies are international in this day and age there is a possibility that they might do better as the dollar drops, so I would base my investments on the latest gadgets coming out and risk evaluation. Also, if the dollar keeps dropping investors will buy more of it so its still possible for it to outperform competition, as the Article said. The dollars started falling because we do not save enough money, but it is not the end of the world.
I think that in order to prosper in an economy with a weak dollar it is essential to have not only a diversified portfolio domestically, but also internationally. For the last two quarters the United States has experienced a deep recession and part of the reason that the economy failed was because too many people did not have a wide range of investments in their personal portfolios. A reasonable solution to this seems to turn to foreign investments. But what to invest in? Rising economies. Countries like China, Germany, and other certain European markets have done well. The trick is to buy low and sell high. In this day and age I don't think it is the best idea to buy and hold, market timing is key, especially in international markets which can often be unpredictable.
I forgot the comment over the weekend so I'm doing it now. I hope this counts for some points... While a falling dollar in essences is not a good thing, there are way around it to make it not seem so bad. The best thing seems to be attaining a globally diverse portfolio. Also when the dollar weakens, but up foreign bonds will benefit the American shareholder more when cashed in during times of a down dollar.
QUESTIONS: 1. (Introductory) By how much percentage did the U.S. dollar fall against the euro since its peak in 2000?2. (Advanced) What options are available to investors to protect them against a weakening dollar?3. (Advanced) How do big American companies with overseas earnings benefit from a falling U.S. dollar?4. (Introductory) Does a weak U.S. necessarily imply it is a bad for U.S. stock markets over the long period of time? Why?
A: 44%, foreign currencies, gold, basket of commodities, earnings are worth more. Gets the people to invest here instead of abroad even more so than the current trend, do the lower value comparisons.
A big change in our economy by going back to the gold standard could stabilize our dollar to avoid drops like these.
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