Dollar Rally Ripples Globally, Leading Investors to Reverse Course
The dollar’s surprisingly durable rally and expectations of strong U.S. growth are upending investments across the globe, punishing commodities and emerging markets while attracting more overseas money to the U.S.
Many investors believed the dollar’s gains this spring would amount to little more than a temporary bounce during an emerging bear market. Signs that economic growth was picking up in Europe and other major economies pummeled the U.S. currency last year and in the first quarter.
But as growth abroad has slowed and the Federal Reserve has adopted a more aggressive stance on interest rates in response to an accelerating U.S. economy, the dollar’s advance has gone on longer than many anticipated.
The WSJ Dollar Index, which measures the currency against a basket of 16 others, rose 5.1% in the second quarter for its first quarterly gain since 2016.
Many observers think the rally looks poised to continue as markets head into the second half of the year.
“The dollar went on an absolute rampage,” said Said Haidar, head of New York-based Haidar Capital Management, who in May scrapped his bets against the U.S. currency and now is wagering it will gain against currencies such as the Polish zloty and Hungarian forint. “It took us a little by surprise.”
Hedge funds and other short-term investors last month turned bullish on the dollar for the first time in a year, according to data from the Commodity Futures Trading Commission. That positioning helped lift the dollar to its highest level since July 2017.
Because the dollar is the world’s main currency, any significant change in its value and future outlook can send ripples through financial markets.
U.S. stocks and bonds in June made up nearly 60% of global investment portfolios, according to the Institute of International Finance. That was the highest allocation for U.S. markets since early 2017, reflecting increased confidence among investors that robust growth in the U.S. will continue.
Justin Bourgette, a portfolio manager at Eaton Vance, cut his positions in emerging-markets stocks this spring. He used that money to buy small and midcap U.S. stocks, which he believes will benefit from the country’s strong growth.
“China is slowing, the eurozone is slowing, but the U.S. is still chugging along,” said Mr. Bourgette.
Still, a rising dollar doesn’t help all U.S. investments, especially the big exporters. A strong currency makes U.S. products less competitive abroad and eats into the profits of multinationals when they convert foreign earnings into dollars. Coca-Cola Co. , for example, said in a statement in June that it now expects a headwind of 2% to 3% on its 2018 comparable operating income due to a stronger dollar. Coke shares are down nearly 10% from their February highs.
Investors are also turning skittish on assets that could suffer under a strong dollar, including gold and other raw materials.
“I don’t understand how anyone sits back and imagines a story where the dollar goes down,” said Christopher Stanton, who manages $300 million as chief investment officer of California-based Sunrise Capital Partners LLC.
He recently bet on a decline in prices for gold, silver and copper, which are denominated in the U.S. currency and become more expensive for foreign investors when the dollar strengthens.
Net bullish bets on gold stand at their lowest level since January 2016, reflecting a 5.4% slide in the metals in the second quarter. Copper is off 2.3% in the same period, while cocoa has fallen 1.7%. One of the few exceptions has been oil, which has rallied to its highest level in three years on threats to global supply.
The dollar’s sharp ascent is also exacerbating a selloff in emerging markets by making it difficult for countries that borrowed heavily in dollars in recent years to service their debt. Declines in the currencies of Argentina, Turkey, Mexico and South Africa have accelerated in recent weeks.
Investors are becoming more assured in these bets because many think the factors boosting the dollar are likely to remain in force.
For one, the U.S. economic expansion has been gaining strength, with some forecasters estimating gross domestic product grew by as much as 5% in the second quarter. Europe’s growth, meanwhile, is moving in the opposite direction. In June, the European Central Bank revised down its eurozone growth expectations for this year to 2.1%, from 2.4%.
Mr. Stanton at Sunrise Capital says that rising expectations for the Fed to accelerate the pace of rate increases will keep the dollar supported against currencies that are tied to more dovish central banks, such as the euro and Australian dollar. Higher rates make the dollar more attractive to yield-seeking investors.
Trade tensions between the U.S. and China are also giving the dollar a boost, analysts say. Many investors believe the U.S. would be hurt less than China or Europe should a full-blown trade war break out.
The dollar will also be supported by companies bringing home overseas funds to take advantage of a one-time cut written into the GOP tax overhaul signed into law late last year, said Bank of America Merrill Lynch. That process appears to be under way: The bank estimates that companies repatriated $175 billion in the first quarter and could bring back as much as $450 billion.
Not everyone is counting on the dollar rally continuing. Aaron Hurd, senior portfolio manager at State Street, said he is looking to lighten up on his dollar bets in the second half of the year. He anticipates monetary tightening from global central banks to buoy the euro and other currencies next year.
“If we don’t see too much damage from this trade skirmish, maybe global growth can pick up again,” he said.