If you listen carefully the groundwater beneath the global financial markets is beginning to shift. And you should be paying attention.
I’m talking about the U.S. dollar. After more than a decade in the doldrums global financial flows are beginning to find its’ way into the greenback and the financial press have noticed this in the last few weeks.
I believe these global funds flow into the U.S. dollar is a secular (long-term) decade long financial phenomena that will have large impacts on investors’ rates of return for years to come.
And most equity investors have no idea that currency trends have big impacts on potential future gains/losses. Hell, do you know what the academic community says about shifting currency trends. Ignore it! They repeat this mantra like a skipping vinyl record, if anybody knows what this means anymore, that currency movements over the long-term have no impact on equity investment returns.
I especially focus on the U.S. – Canadian dollar exchange rate – no surprise here – because the majority of our clients at Acker Finley spend Canadian dollars at the end of the day including myself. Getting this exchange rate right is critical to preserving any sort of purchasing power for spending time, whether retirement or vacation time, in the Unites States where the majority of Canadian folks want to spend their leisure time.
I’m also interested in accruing larger rates of return in Canadian dollars from equity asset allocations with little to no added potential risk. And by getting this secular trend correct, the U.S./CDN exchange rate trend, I can easily accomplish this.
Want an example?
To howls of laughter, back in 2001-02, when the Canadian dollar was selling at $0.65 – $0.68 to the U.S. dollar, I predicted the Canadian dollar would eventually be selling at par to the U.S. dollar. I had lunch roundtables at our offices at Acker Finley, made predictions on BNN and made sure all Acker Finley clients didn’t have U.S. dominated assets held in their accounts. (When we started our Acker Finley Select US Value 50 fund in November 2003, we made sure the fund’s assets in U.S. securities were hedged – one of only a handful of foreign mutual funds at the time – so that a rising Canadian dollar wouldn’t reduce the fund’s performance over the long-term. Looking back this decision to hedge our U.S. portfolio materially boosted Canadian dollar returns over the last ten or so years.)
I have changed my opinion on the U.S./CDN exchange rate ….two years ago!
Yes, I have now changed my opinion on the U.S. dollar, actually two years ago, and this decision can be traced to the elimination of the currency hedge we instituted in the aforementioned Acker Finley Select US Value 50 mutual fund. We substantially eliminated all our Canadian dollar forwards on our U.S. portfolio of equities in June of 2012 at $1.0217 cents U.S.
Yes, I bought Canadian dollars at $0.68 cents some ten years ago and sold them at $1.0217 a couple of years ago, not a bad trade! Of course the academic community says ‘in theory’ nobody can do this successfully – trade an undervalued currency for an overvalued one – but to me it’s obvious and I’m doing what I feel my clients are paying me to do even though it may not be obvious to their overall rates of return as purchasing an individual bond or stock!)
Why mention this?
Review all great U.S. ‘Bull’ markets of equities in the past 30 years and they coincided with a bull market in the U.S. dollar. As global funds flow moves into the greenback these now U.S. dollar funds start to look for rates of return. The most convenient risk free instruments are usually U.S. Treasuries but for risk assets the instrument of choice will probably be the S&P 500 Index ETF or ‘Spiders’, as it was in the late 1990’s.
Yes, it’s just that easy. A virtual and prosperous two-step cycle will occur as global funds flow converted into U.S. dollars will positively impact the value of the U.S. dollar against other major currencies (US Dollar Index – see below). Followed by the second step of an allocation of U.S. dollar holdings by foreigners to large capitalized equities having past positive rates of return. Which begets more global funds flow.
Am I guessing here?
No, as with my Canadian dollar call back in 2002, I’m using Model Price Theory [MPT] as the basis for my call. All national governments have balance sheets like public companies that form a basis for our model price calculations that you see in our Facebook application. Back in 1995 the Canadian federal government set us on a road of improved balance sheet solvency by cutting back on federal spending and deficits. The model price math was obvious and my call on the Canadian dollar was equally as obvious by-product of the math. The exciting part is the U.S. federal government’s balance sheet is starting to look at lot better than two years ago (deficits are coming down) and the model price math is pointing to increased solvency, much in the same way as Canada’s federal balance sheet back a decade ago.
U.S. Dollar Index
Here is a chart of the U.S. Dollar Index reproduced from the Wall Street Journal.
Notice this chart goes all the way back to 1997 and shows a weak U.S. dollar relative to a basket of currencies that make up this index.
Source: Wall Street Journal
I know I keep on repeating this often but I’m no Technical Analyst (TA) however I like what I see here. I do like to look for market bottoms especially bottoms that occur over long periods of time and I do believe this U.S. Dollar Index qualifies.
Yes, we are finally witnessing the U.S. dollar is starting to gain in strength after a decade of being the red headed stepchild compared to most of the world’s currencies. Just a couple of years ago financial experts were predicting the end of the U.S. dollar’s world reserve currency status when we, Acker Finley, was buying U.S. dollars on any sign of weakness.
If this U.S. Dollar Index breaks above 90, as illustrated, I believe a long-term rally will be confirmed to all trend followers and momentum investors alike driving U.S. dollar demand to US Dollar Index levels that we haven’t witnessed in over two decades (1982 to 1986 period).