The ‘extreme’ rise of the US dollar threatens tank stocks and raises ‘significant’ pressures in the market in the coming weeks
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Despite rising inflation driving its purchasing power down domestically, the US dollar has soared this year, and while this is good news for Americans traveling abroad, Morgan Stanley warned on Monday that many US companies will suffer as their businesses International will become less profitable – forcing many to lower earnings expectations and reduce their inventories as a result.
“From a historical perspective, this bear market may only be halfway through,” Morgan Stanley … [+]
key facts
Buoyed by demand for safe-haven assets such as Federal Reserve policy stocks, the US Dollar Index, which tracks the price of the dollar against six foreign currencies, has risen 16% over the past year — a rally that “is as high as historically,” a team of analysts wrote. Morgan Stanley led by Michael Wilson in a Monday note to clients.
Unfortunately for investors, such hikes “usually coincide with significant financial stress in the markets, a recession — or both,” analysts wrote, noting that a stronger dollar could dampen international demand for US companies, which generate about 30% of Overseas sales, as they continue to deal with inflation, unwanted inventories and poor consumer spending.
“Ultimately, the Fed wants a meaningful economic slowdown to curb inflation, and a stronger dollar is part of that mix,” the report continues, estimating that for every percentage point increase in the dollar year-over-year, earnings growth in the S&P 500 averaged 0.5 percentage point – which means that the dollar’s rally so far could cut growth by about 8%.
Earnings forecasts haven’t come down yet this year despite mounting fears of a recession, but they’re starting to fade, and Morgan Stanley expects companies to start lowering forecasts over the next few quarters.
Regardless of whether the economy has fallen into a recession or not, Morgan Stanley predicts that such earnings revisions could push the S&P Index to 3,400 points, indicating a decline of about 14% from current levels of about 3,900.
The investment bank’s note comes on the same day that asset manager BlackRock released a report taking a bearish stance on stocks, warning that a Fed rate hike would stall economic growth and earnings estimates are currently “over-optimistic.”
Amazing fact
The rise of the US dollar sent the value of the euro down to a 20-year low of $1.0045. One year ago it was $1.18.
critical quote
“From a historical perspective, this bear market may only be halfway,” Wilson said Monday, noting that the current bear market spanned only six months, while the average duration of historical bear markets is 12 months. “The main point for equity investors is that this dollar strength is just another reason to believe earnings revisions are going down over the next few earnings seasons.”
What to watch
Major banks begin their second-quarter earnings season this week, with JPMorgan and Morgan Stanley due to report on Thursday, while BlackRock and Wells Fargo are among those scheduled for Friday. With the strong dollar adding to the headwinds, Wilson says this earnings season “should be a negative catalyst for stocks in the coming weeks.”
main background
Driven by government stimulus and the war in Ukraine, prolonged levels of high inflation have prompted the Federal Reserve to embark on an even more aggressive economic tightening cycle in decades — crashing markets and raising fears of a recession. In addition to the concerns, the US economy recorded its worst performance since the Covid-induced recession in the first quarter, contracting 1.6% despite expectations that had originally called for 1% growth. Although stocks are up about 5% in recent weeks, the S&P 500 is still down about 20% this year, and the tech-heavy Nasdaq is down 28%.
in-depth reading
No, we’re not in a recession yet: A strong labor market keeps the economy safe for now, says Goldman (Forbes)
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