The dollar has been rising since the election as many analysts expect a Trump presidency to bring in policies that will favor US growth and/or higher interest rates. The associated demand for dollars is viewed by some pundits as bearish for world economies since a higher dollar is actually the same as a dollar shortage which translates to a lack of money to lend. Rather than discuss or dispute the merits of the argument we want to assess the impact of a rallying dollar on equity and bond markets to see if there is a consistent (logical) outcome.
Let’s begin by looking at the S&P 500 to see if a rising dollar hurts that market (probably due to reduced foreign earnings among other reasons). To measure dollar strength, I’ll look at RSI – a reading above 70 will do as a marker for strength. If we look at five day readings above 70 we do see a drag on performance but that is largely because you were long for fewer days during a rally:
If we divide the filter into a >60 vs <40 (for RSI of $) we get noise. If we extend the lookback to ten days we also get noise. Last chance – we’ll look at weekly data with 4 week (monthly) lookbacks:
Again, we just see noise. This is not terribly surprising since a rising dollar is associated with inflows (good) and rising rates (bad). The various crosscurrents are unlikely to produce a consistent advantage. In any case the original argument was really about foreign markets:
The dailies, using five and ten day lookbacks, show no price performance variance of consequence. The weekly shows a slight advantage (buy when the dollar is rising) – this is the opposite of what the pundits are arguing in favor of:
This filter protected you from downside but didn’t enhance your total return.
In this case, we again see some out-performance by the market when the dollar is rising:
This is the best advantage we get when considering the impact of dollar moves on equities. Perhaps more interesting for some PM’s is the fact that there is no advantage when we study the impact of the Yen on the Nikkei.
Without going into detail, we can unequivocally say there is no advantage to waiting for a dollar rally to buy either US bonds or Bunds – and if we wait for dollar weakness, there is also no advantage. This is partly because we saw QE dominate but also because there is no connection between cyclical events of the last ten years and the dollar. For example, we saw a tremendous s dollar rally in 2014 that didn’t correlate with either a bond rally or a stock rally (of consequence). In 2008 we saw asset flight create a dollar rally that abated when the stock market recovered but it takes extreme conditions to sustain this negative correlation.
To make an argument that a dollar rally leads to global economic weakness would require one to build in significant variable lags. Frequently there are other far more important factors and there may well be a divergence between that economic weakness and the performance of the stock market – in Germany or the US. If you’re looking for clues to future stock and bond market performance by focusing on the dollar, you have given yourself a very tough job.