10 Reasons Why the Dollar Will Strengthen

By Louis Basenese. Mr. Basenese is the Associate Investment Director of The Oxford Club and regular contributor to Investment U. The following article first appeared in Investment U.

The world is short the dollar right now. But that could be a big mistake…

The outlook for the ailing greenback – finally – is getting healthier, which makes it the perfect time to go long.

I know this is a wildly unpopular and completely contrarian stance, so let’s get right to it. Here are the 10 reasons I think the dollar’s headed for an inevitable reversal:

1. If Not the Dollar… Then What?
With the greenback getting clubbed, China shocked the world recently by suggesting it would diversify away from the dollar. To which I simply say – into what? The likely suspect is the euro, but there’s not enough liquidity to handle the demand. Plus, it’s still a pre-pubescent, experimental currency that not one government can invest in with 100% faith. Moreover, with two-thirds of foreign reserves in dollars, it would take more than eight years to replace the dollar as the currency of choice. Bottom line, while many complain about the decline of the dollar, there’s not much they can do about it now… except complain.

2. The Fed: From Enemy to Ally
Currently, the U.S. Federal Reserve is trading off higher inflation and a weak dollar for the promise of economic growth. In the short-term, this obviously weakens the greenback. But once the credit markets return to normal (or almost normal) and a recession is averted or exited, expect the Fed to act swiftly, raising rates as its main priority swings back to fighting inflation. This will instantaneously strengthen the dollar.

3. What Goes Down Eventually Goes Back Up
As we speak, the dollar is trading at multi-decade lows versus the British pound, Canadian “loonie,” the euro and the Japanese yen. The cyclicality of the markets instructs us that the pendulum will eventually swing back the other way. And with so many multi-year lows being hit, I’m confident we’re near the turning point.

4. Warren Buffett, Jim Rogers and Bill Gross CAN Be Wrong
Believe it or not, three of perhaps the greatest investors of our time are not right 100% of the time. As we speak, all three hate the dollar…

“We’ve told all of our clients that if you only had one idea, one investment, it would be to buy an investment in a non- dollar currency.” ~ Bill Gross

“We still are negative on the dollar relative to most major currencies, so we bought stocks in companies that earn their money in other currencies.” ~ Warren Buffett

And Jim Rogers sold his house and all his possessions denominated in dollars because “the dollar is collapsing.”

And I think they’re wrong. Plus, they’re entitled to change their minds. And they won’t put out a press release if they do, as another legendary investor proved…

"A trader named Jean-Manuel Rozan once spent an entire afternoon arguing about the stock market with George Soros. Soros was vehemently bearish, and he had an elaborate theory to explain why, which turned out to be entirely wrong. The stock market boomed.

"Two years later, Rozan ran into Soros at a tennis tournament. ‘Do you remember our conversation?’ Rozan asked. ‘I recall it very well,’ Soros replied. ‘I changed my mind, and made an absolute fortune.’”

In the end, being a dollar bear just on account of these three investment greats is a risky move. They’re human just like the rest of us… and destined to be wrong every now and again. I’m convinced that’s the case this time because the dollar downturn is getting too long in the tooth.

5. Pop-Culture Even Hates It
In a recent music video, rapper Jay-Z opts for a suitcase full of euros instead of dollars. And supermodel Gisele Bündchen now wants to be paid in euros. I don’t think you can get a more clear-cut contrarian indicator than popular culture “hating” on the dollar to such extremes.

6. The Most Unlikely & Unsophisticated Are Speculating
More troubling is the fact the most unlikely and unsophisticated “investors” are now speculating against the dollar – wine merchants and antique shop owners. Reuters reports “Euros Accepted” signs are popping up throughout New York City. Why?

“We had decided that money is money and we’ll take it and just do the exchange whenever we can with our bank," Robert Chu, owner of East Village Wines. Not to be outdone, antique storeowner Billy Leroy takes euros and “doesn’t even bother to exchange them,” according to Reuters.

Sounds like two sound investment plans to me!

Look, when the wine merchants and corner store owners start trying to earn an extra buck by speculating in the foreign currency market, instead of focusing on their business, we’re near a bottom. Think of it as almost the equivalent of the day-trading phenomenon we witnessed during the dot-com days, just in the currency markets. People giving up their professions to make a living doing something they know almost nothing about.

7. Psst! Did You Hear About the Amero?
Another contrarian sign we’re at an extreme bottom – talk of the Amero or Americo is popping up again. First floated by Dr. Herbert G. Grubel of the Fraser Institute in 1999, this is largely a conspiracy theory that the governments of Canada, the U.S. and Mexico are secretly planning to launch a unified currency to compete with the euro. This is such a bad idea on so many levels I can’t get into them all here. Just trust me, the world’s largest economy is not going to relinquish macroeconomic control by opting for a unified currency.

8. A REALLY Weak Dollar Helps No One
OK, back to more acceptable arguments. While many countries may dislike Americans, they dislike a really weak dollar even more. It makes U.S. exports attractive and all but forces them to patronize the “enemy.” And in turn, their manufacturing industries suffer. So don’t expect many governments to fight a modestly stronger dollar. If anything, when the reversal begins, they might encourage it.

9. We’re Not Decoupled Yet
A slowing U.S. economy affects the rest of the world… with a delay. According to Stephen Roach of Morgan Stanley (MS), “For Euroland, historically, the delay has been one or two quarters.” I’ll concede decoupling is a possibility, but not this time around. We’re already seeing weakness here spark sell-offs abroad. So while this may be last time the rest of the world comes down with us, they will nonetheless. In turn, this will provide a bottom for the dollar.

10. Stocks Love A Strong Dollar
If you’re not with me on the bullish dollar stance yet, but are invested in equities, you need to reconsider. Despite conventional wisdom, a weak dollar is NOT beneficial to the stock market. And here’s the proof from the Bespoke Investment Group:

“Since 1967, the dollar has had four up cycles and five down cycles. The average return of the S&P 500 during the four up cycles is a gain of 86.6%, which is over five times the average return of 16.4% during dollar declines.”

So if you want your stocks to go up (by a wide margin), history shows you should also want the dollar to go up.

In short, the dollar might be traded like funny money right now, but it won’t last forever. In the near-term, I do expect more pressure to the downside, but a turn is coming. The fact that the dollar didn’t utterly collapse when the Fed cut interest rates 125 basis points in eight days only strengthens my conviction here.

And rest assured, when the dollar bears turn into dollar bulls, the change will come swiftly.

Comments

[Stuart King]

Mr. Basenese makes some very cogent points. I tend to agree with most of what he says and to paraphrase, perhaps badly; the news of the Dollars death is greatly overstated. I do, however believe that the US has many major issues to face that are perhaps being left too long untended, which will lead to bigger problems in the future. I too, however believe that there is life in the Dollar yet, and to quote: "What goes down will come up", people have overreacted as we tend to do, and, in time the Dollar will recover, but there are issues and perhaps each recovery will be less robust than the previous one, but the US is a dynamic and strong economy and I believe that it will take a lot to cause it to collapse in any real sense of the word.

[fabian hug]

I do also think that the pendulum will switch course but, as Mr. King mentioned, the recovery will likely be less robust.
-The Euro may be prepubescent but prepubescents are generally in a much better health than old people. In any case this currency is better managed than the $.
-You have another alternative to the $ in the realm of commodities. If you run huge surpluses, it doesn't hurt to put some of them in hard assets you can always use later.
-US is not anymore the stronghold of financial normality since other countries adopted US methods. Think that during the last five years countries like Russia or Brasil turned out to be better managed than the US (OK it is too early to pretend that it will last but still...). This decline in relative competitiveness may have long term effects. People may want to invest more in their homelands.
-There is an important aspect that's overlooked. US runs a huge deficit with its trading partners. This deficit is financed by the surpluses of these same trading partners. What will happen when the surpluses melt away thanks to a falling $? This virtuous circle will end or collapse or slowly stop. Some months ago this refinancing problem was closely watched by the markets but today nobody talks about it anymore. I think the $ future is closely linked to that. Maybe that's why the Buffets of this world are still bearish on the buck.

[Jason Mark]

The surpluses will shrink a bunch but not melt away. The Buffets of the world are probably still dollar bears becuase they believe a bottom for the dollar has not been reached.

[curious cat]

what does buffet care if he makes a wrong currency bet? he's giving his money away, anyway. he knows he can't take it with him, whether it's in dollars, euros or reals. he really is smart! and, who did he trust to manage his massive charitable distributions? he picked bill gates, someone that has as much money as he does, ensuring his money would have maximum effect.

he knows when to gamble and when to pick a sure thing.

[nik_]

Is the outlook really getting healthier? Is the US forecasting a surplus this year? The article seemed to state that the dollar 'has to' stengthen simply because there is no alternative and the world cannot exist with a weak dollar. Only the first 2 reasons make some sense, the rest seem to have been added just to make it 10. The statement about Buffett actually doesn't help your case.
The one figure that matters most is the US deficit. I would have loved to see a reason that tackled the deficit problem. Unless that is reduced quickly enough, the dollar slide will continue no matter what. Govts and central banks will of course interfere to slow the slide, but just because people are stuck with dollars the world over doesn't mean it can be defended forever.

[superdynamite]

We need another industrial revolution. The United States needs to go Solar, like Holland & the UK. We ship all of our money to China, India & OPEC. The USA cannot survive as long as we are doing that. The dollar is finished and so are we unless we become a self sufficiant Nation.

[FXTrader40]

I keep hearing this thing about rappers (who are pretending to be gangsters in thier videos) using Euros. The main reason why people involved in illegal activities want Euros is because the 500 Euro note is the most compact and portable form for cash, that can still be laundered into the legitimate system. It used to be the $100 bill, but it just is not worth that much any more, and takes up about 7.5 times the space that a 500 Euro note takes if packed into a suit case while trying to transport an equivalent amount of money.

Regarding the super-model, it is quite possible that she buys or wants to buy big ticket items denominated in Euros than dollars. After all, she is ethnic German and from Brazil. Super models spend lots of time in Europe.

Most Americans need dollars. They are oblivious to exchange rates, because they never exchange currency.

[Mr. G]

THIS ARTICLE IS CONSISTENT WITH THE ETERNAL OPTIMIST THEORY THAT OVERLOOKS OBJECTIVITY. WITH THE CURRENT ECONOMIC CONDITIONS IN THE US, THE ARTICLE IS COUNTERINTUITIVE AND LISTENING TO THE OXFORD CLUB IN MY EXPERIENCE NEVER RESULTED IN ONE WINNIG STOCK.

[syruppy]

. . . is the price of oil going up in direct relation to the sinking value of the dollar, vis-a-vie other currencies, or are we looking also at a major change in a key factor of production. I would say the latter and because of that, the dollar is simply reflecting accurately—like a share in the world economy—a reduction in worldwide GDP due to monopolistic factors beyond the monetary and fiscal control of energy-consumers . . .