Special Edition Financial Planning Newsletter
"The US Dollar and how if affects you."
Understanding all the talk about the US Dollar.....
Recently, Gold and Dow 10,000 were the most talked about items in the financial press. Now it seems that has been replaced by the national fixation on the US Dollar falling in value. This newsletter will break down a few basics of the Dollar index and how a strong or weak dollar affects your personal finances
What is the US Dollar Index?
The US Dollar Index is basically a comparison of the value of the US Dollar and a basket of international currencies.
Here is a definition directly from Wikipedia:
It is a weighted geometric mean of the dollar's value compared only with
USDX started in March 1973, soon after the dismantling of the Bretton Woods system. At its start, the value of the US Dollar Index was 100.000. It has since traded as high as the mid-160s and as low as 70.698 on March 16, 2008, the lowest since its inception in 1973.
What causes the dollar to fall or rise?
Typically when a countries economy is growing their currency is stronger as more people are looking to invest there. When that economy enters a recession and interest rates decline typically the currency falls relative to other currencies as money is transferred out into other areas where it can get a higher yield. To illustrate this please see the following 25 year Dollar Index chart below. You can see how the dollar was rising during the 90's and started falling with the tech bubble in 2000.
(Click on picture to enlarge)
What would a weaker dollar mean to me?
There are pros and cons to a weaker currency. On the plus side it means that American manufacturing, products and services (exports) are cheaper to foreign buyers. It also means that American businesses are attractive for foreign investment along with US Real Estate as their currency buys a lot more when converted to US Dollars. One additional upside is foreign tourism rises as it is cheaper to vacation in the US.
The downside to a weaker dollar is that unfortunately the world is now one big global marketplace and we are highly dependent on overseas imports, so they go up in cost (takes more US dollars to buy that flatscreen TV when converted to other currencies) and our cost of living goes up (INFLATION!). All the while our salaries stay the same. Unfortunately a weaker dollar also means that it is harder to sell US Debt to other countries as the value of that debt erodes over time. So you can see that the Government has tough decisions to make as they try to balance a weak economy and pressure from foreign debt holders.
Where to invest in a weak currency environment?
Typically hard assets (realestate), commodities, foreign investments and that yellow metal tend to perform the best with a plunging currency. The stock market has performed well with a weaker dollar and this year the S&P and the Dollar Index are almost running exactly inverse to each other. A weaker dollar will continue to support the stock market until hints of inflation take hold then it could change.
As my clients know I am a bit of a contrarian when too many people are predicting something to happen I tend to look for the opposite. That's not to say that the dollar won't keep trending down over time, but anytime now it seems that we are due for a bounce. A bounce in the dollar would probably mean a correction in the stock market and commodities. Below is a 3 year chart of the Dollar:
(click on image to enlarge)