Inter-market relationships have been much more important for stocks than in past years. I have been highlighting in meetings, and most recently in the quarterly investment call, that the US Dollar is one of the key relationships for the direction of stocks. You can see it in the charts!
The reason for a strong dollar is straightforward as the U.S. is the strongest economy in the world right now, and the US Dollar is one of the safest investments this year. As global investors seek to avoid risks in China, Japan, Europe, and the U.K. this pushes the dollar higher. Additionally, the Federal Reserve is much more aggressive with interest rate hikes to combat inflation further supporting the dollar. Ultimately stocks feel this pressure as large multi-national companies could see meaningful revenue decline.
So, we believe a declining dollar is a major key to reversing the downtrend in stocks. As marked by the red lines on the following two charts, when the dollar falls, we have gotten countertrend moves higher in the S&P 500.
The bad news is the US Dollar is in strong uptrend, and S&P 500 is in a downtrend. Each move in the dollar lower is halted at the 50-day moving average, and it continues to rise with stocks falling to new lows.
The good news is that a rising dollar is one mechanism to slow inflation which will ultimately lead to a pause in Federal Reserve interest rate hikes. This is still in the future, but we are moving closer and closer to this point. There is tremendous pent-up energy for a lower dollar when this occurs. It is currently over-valued by 18.3% as measured by purchasing power parity and that energy should transfer to stocks.
Sean Dillon, CMT, CFTe
SVP, Investment Strategies
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