Currency values impact portfolios...and vacation plans

My wife and I knew that the Aussie dollar had a different value than the U.S. dollar, but we didn’t fully understand how different until we were on our Down Under flight in 2012. Our seatmate was a young Australian woman who related how she bought an additional suitcase in New York to bring back new clothes and electronics: “Everything was so cheap!” she gushed.

Our reaction to Australia prices was considerably less enthusiastic: we blanched when we paid US$60 for two beers, a single hamburger and a tiny side salad. Our responses were two sides of the same coin:  Our seatmate viewed the Australian dollar / U.S. dollar exchange rate with greedy delight while we nervously recounted our travel funds.  At that time the Australian dollar was strong.  Recently, it’s the relatively powerful U.S. dollar that’s creating serious implications not only for travelers but for consumers and U.S. investors with overseas holdings. 

In late January 2015, for instance, the U.S. dollar hit a seven-year high against the yen, a five-year high against the Australian dollar and an 11-year high against the euro. 1

What’s behind the current strength of the U.S. dollar? One factor is simply the continued relative strength of the U.S. economy. With Japan back in recession, Europe teetering on the brink of it, and even China slowing, the U.S. economy’s recent 2.6 % growth rate looks relatively impressive.

This situation also sets the stage for the U.S. Federal Reserve to boost interest rates, attracting overseas investors who might look at the lackluster 10-year German bond yield of .346%2 and search for more promising investment opportunities.   Another factor contributing to the U.S. dollar’s strength is weakness in other parts of the world. For example, European economic woes and the European Central Bank’s (ECB) actions to boost money supply to encourage economic activity have made the U.S. dollar more attractive.

Certainly, a strong U.S. dollar confers some benefits. American travelers find their dollar buys more in London or Sydney. American consumers find better prices on imported clothing or cars.  On the other hand, the stronger dollar makes U.S. exports more expensive, cutting into sales of large-ticket items like U.S.-made tractors and jets.

International investors also get roughed up by a strong U.S. dollar – particularly those who have thrived off foreign investments made during weak-dollar times. If, for example, an investor had bought a French stock with euros, they now would find the weak common currency takes a big bite out of their profit when euros are converted back to U.S. dollars.

Because of all this, we’re seeing a change in U.S. investors’ outlook. A year ago most U.S. investors were unconcerned about currency strategies. Now my phone here at Russell's foreign-exchange desk in Seattle rings regularly with queries about how to manage international portfolios where currency returns can be an important component. So in my next post I’ll outline some strategies investors can follow to help cope in this new world of a strong dollar.

Until then, maybe it’s time to revisit plans for that long-delayed European trip.

1Bloomberg, 3 February 2015.

2Bloomberg, 3 February 2015.