How to Play Rising Foreign Stocks and a Rising Dollar
by Alexander Green, Chief Investment Strategist
Monday, January 18, 2010: Issue #1177
I’ve made no secret here recently that I believe the dollar is likely to soar against the euro, the pound and the yen this year. Yet this remains a distinct minority opinion.
Most analysts are focused on the huge U.S. budget and trade deficits, nearly $60 trillion in unfunded liabilities for Social Security, Medicare, Medicaid and the new prescription drug benefit, and the Federal Reserve’s penchant for conjuring trillions of dollars out of thin air to “fix” the economy.
These are indeed real and intractable problems that weigh on the dollar.
But people forget that currencies are measured in other currencies. And most of the world’s major economies have it worse than we do…
Why the Dollar Should Surge in 2010
Here’s a why the dollar will soar in 2010. Consider that…
- Japan and Western Europe are both growing more slowly than the United States.
- Both are also more socialistic – with bigger imbalances down the road.
- Many foreign nations are in worse fiscal shape than the United States. Our budget deficit as a percentage of GDP, for example, is only one-third as big as Japan’s.
In addition, the United States is likely to outperform these other economies in 2010 and the Fed is likely to start raising short-term rates toward the end of the year. That’s a catalyst for a surge in the dollar.
Despite the fundamentals, though, sentiment still weighs heavily against the dollar. In fact, there’s almost an air of disbelief when you talk to knowledgeable investors about the potential for a rising dollar. (These are the same smart guys, incidentally, who thought Internet stocks were a “new paradigm” and residential real estate values were a one-way street.)
And it’s this sentiment – as much as the fundamentals – that makes the case that the dollar should be a wonderful contrarian investment in 2010.
That means foreign currency-denominated bonds and bank accounts should be held for hedging purposes only, in my view.
However, I’ve also received letters from subscribers asking if they should bail out of their international stocks, too.
Absolutely not. Here’s why…
Head to Emerging Markets and Capitalize on a Falling Dollar
Foreign stocks can appreciate strongly enough to overcome a falling foreign currency. (Most emerging market stocks are denominated in undervalued currencies or ones that are pegged to the dollar.) And some foreign companies, especially exporters, actually benefit from a falling local currency.
However, make no mistake: If the greenback rises it will diminish total returns on international assets for those investors keeping score in dollars.
The exception will be those investors who hedge their foreign currency exposure with futures and options. For most investors, this alternative is too cumbersome and expensive. (After all, you have to hedge every currency you own for each foreign stock for each holding period.)
An International ETF That Offers Foreign Diversification Without Currency Risk
That’s why I’m happy to report that WisdomTree has recently introduced an international exchange-traded fund (ETF) that allows you to own foreign stocks with the foreign currency exposure totally hedged…
It’s called the WisdomTree International Hedged Equity Fund (Nasdaq: HEDJ).
The fund invests in a trio of ETFs:
- WisdomTree Europe Total Dividend Fund (NYSE: DEB)
- WisdomTree Japan Total Dividend Fund (NYSE: DXJ)
- WisdomTree Pacific ex-Japan Dividend Fund (NYSE: DNH)
Of the roughly 250 international-stock ETFs on the market, this is the only one without foreign-currency exposure. And the total expense ratio for HEDJ is a reasonable 0.58%.
So if you want the diversification power of non-U.S. stock holdings – which you should – without the foreign currency risk, HEDJ is your natural choice.
And if the dollar rises, as I expect this year, this fund should end 2010 near the top of the heap for international fund performance.
Good investing,
Alexander Green
Any investment contains risk. Please see our disclaimer.
6 Responses to “How to Play Rising Foreign Stocks and a Rising Dollar”
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Alexander Green is the Chief Investment Strategist of Investment U. A Wall Street veteran, he has more than 20 years of experience as a research analyst, investment advisor, financial writer and portfolio manager.
I want to know what the dollars I don’t yet have will do against the things I need to use. What will the balance of trade be, cost of commodities? Are you only concerned with what benefits the big banks?
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If in your words, “that currencies are measured in other currencies. And most of the world’s major economies have it worse than we do…” why not choose a currency that does not have “worse” problems such as the Australian dollar or Norweigan Krone?
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I always like your articles because they give an insight that others miss. In this case however, I believe that you are missing a huge point.
China, in April 2009, had a foreign currency reserve of over $2 trillion of which $1.6 trillion was US bucks. By November 2009, they had reduced their USD holdings by about half. They have been supporting the USD on one hand, by being seen to support the Dollar by buying T-bills, while on the other hand they are dumping their USD exposure as fast as they can. I believe that when they have their USD reserves down to about $200 Billion, they will stop supporting the USD. At the rate they have been divesting themselves of their USD exposure, I think that will happen about May 2010.
This will serve several purposes for China. The US will have to raise rates through the roof in order to finance their debts because the Chinese are their biggest supporters. The USD will tumble, securing China’s economic dominance in the world. And of course, China will be in a very strong position to buy up falling US assets, and they will be able to dictate policy to the US if the US wants China’s participation in propping up the US economy.
You don’t need armies to dominate the world if you control the world economy. That is something that consecutive US governments have failed to recognize.
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The big picture with currencies is that everything is relative. Therefore, yes, I can see the US dollar rising against the disarrayed mess that is the euro and the weak domestic economy that underpins the yen.
However, there is the Canadian dollar which for many years was the Rodney Dangerfield of currencies. To the dismay of its central bank and its non-resource exporters currency traders seem determined to push it to beyond parity with the US dollar and well above its purchasing price parity.
Having been stung many times in the past, its bankers were suitably cautious this time and due to over taxation of a complacent population its politicians are able to gloat about its fiscal position. Which caused Obama on his visit to remark “I love this country.”
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What about currencies such as Brazil and Australia? Won’t they hold up well versus the dollar?
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Last year your publication was all for investment in other countries currency. Therefore, I took your advise and put a large sum in the Ever Bank BRIC fund, which doesn’t pay interest and lasts for 3 years. You don’t know if you have earned anything until the end of that period. Since you now see the dollar coming back, what do you think about the BRIC fund?
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