The dollar is soaring as more realize the extent of Europe’s troubles (and Japan and a number of other countries).

Here’s the dollar index (vs. a basket of foreign currencies) over the past five years:



The dollar is at an 11-year high against the euro and at 7-year highs against the yen.  Policies and mechanics suggest this can and should continue.  The U.S. has ended it’s “Quantitative Easing,” and the market is anticipating the beginning of interest rate increases in the coming months.  Regardless of whether the Federal Reserve will raise rates or should raise rates, the point is the U.S. is healthy enough to have this debate; it is no longer in crisis.

The same can’t be said in Japan, where “Abenomics” and its immense QE program has had disappointing effect; or in Europe, where it just started its own 1 trillion euro QE program, buying 60 billion in bonds a month.

Bond rates have turned negative in much of Europe in anticipation of the stimulus program.  Negative rates can be found up to 8-year maturities. Think about that for a moment, in buying, say, 5-year French bonds knowing that if you hold it until maturity, you are guaranteed to lose money.  Institutions are buying, though, and the ECB is now buying in a big way.  Of course, 60 billion euro a month is a big demand surge driving prices up and yields down, and many anticipate their yields will get more negative, and they will make money.  Still, we think investors, especially U.S. based ones, have little reason to speculate.

10-Year U.S. Government Yield:  2.2%

10-Year German Government Yield:  0.3%

Interest rate differentials like this could increase as the ECB and other central banks continue pushing on the gas.  That means the dollar could continue climbing.  As high as the dollar seems, it is far from all-time highs.

The dollar chart going back to the 1960s:


While we can’t forecast exactly what happens from here, some things we are feeling stronger about:

–  More of the prodigious amount of investment made in foreign markets may be brought home as investors learn lessons not experienced for a long time like currency risk, performance-chasing, and yield-chasing.  (It seems as though investors haven’t unwound their foreign holdings much yet; witness the $1.1 billion in inflows into Emerging Market bonds in just the last week of February).

–  Dollar-based foreign loans will be increasing problematic, as borrowers will making payments more expensive as the dollar increases in value versus local currencies.  There are supposedly $9 trillion worth out there.

–  Stronger dollar is good in general, but a too-strong dollar could tip something abroad into crisis.  Contagion risk can’t be ruled out.

–  As nearly 40% of S&P 500 earnings are generated abroad, there are some more earnings headwinds from foreign exchange translation.

–  Eventually a stronger dollar could create opportunities for U.S. based investors, especially in foreign assets–we can’t just focus on the negative.

–  It might be a good time for you to consider a vacation abroad.