By Michael Brush, MarketWatch
White House Gifts
With the S&P 500 Index about to post its best quarter since 2009 and investor sentiment brightening, now may be a good time to look beyond stocks for profits.
Here’s a good place: the dollar. The greenback, as measured by the U.S. Dollar Index /zigman2/quotes/210598269/delayed DXY -0.03% looks poised to fall. So buying assets that benefit when the dollar sinks — gold, oil, energy stocks and commodities — makes sense. So does short-selling the dollar (betting on a decline), which you can do by purchasing the exchange traded funds (ETFs) named below.
Investing experts including Jeffrey Gundlach at DoubleLine Capital have been calling for dollar weakness since early September last year. The dollar has spent most of the time since then at higher levels. But now it looks like Gundlach may finally be right. Here are six reasons why, followed by 12 ways to play the trend.
1. Trump wants a weaker dollar
One of President Donald Trump’s chief achievements has been to keep the Obama recovery intact. Positive employment trends — a core measure of economic strength — established by Obama’s policies have continued under Trump. Smoothed out averages of monthly jobs gains are roughly the same under both presidents.
Keeping the Obama rebound alive has allowed Trump to take credit for near-record low unemployment. Since this is one of Trump’s main themes with voters, he probably needs to maintain this trend to win in 2020. A weaker dollar will help. It increases demand for U.S. goods abroad because it makes U.S. goods look cheaper. This could support manufacturing job strength in key battle-ground states like Ohio and Wisconsin.
So it’s no wonder Trump has been calling for a weaker dollar. He said he opposes “a dollar that’s so strong that it makes it prohibitive for us to do business with other nations and take their business,” in a March 2 Conservative Political Action Conference (CPAC) speech.
2. Being long the dollar is a crowded trade
As president, Trump has a lot of power to sway policy in a way to get what he wants, a weaker dollar. So it’s a little surprising to see the growing bullish bet on the dollar. Speculators recently boosted their net long U.S. dollar position to nearly $30 billion, its highest level since late December, according to the U.S. Commodity Futures Trading Commission. That makes this bet a crowded trade, points out Larry McDonald of The Bear Traps Report, one reason he is bearish on the dollar.
What’s wrong with a crowded trade? In investing, it can be a bad idea to run with the crowd. Crowds often bunch up in asset classes around tops. This is why betting against the crowd as a contrarian often pays off. The big bullish bet on the dollar should trouble dollar bulls. But it probably doesn’t because human nature being what it is, a lot of people love company when investing.
3. Investors think U.S. inflation will heat up
Many analysts simplistically think interest-rate differentials alone explain currency moves, as money supposedly sloshes around the world chasing the best headline interest rates. But that is wrong. Money chases real interest rates, so you have to factor in inflation. When inflation is expected to heat up in a currency’s home economy, forward-thinking investors ease out of that currency because that inflation will erode its value.
It looks like this dynamic should start playing out with the dollar soon. Since January, inflation expectations embedded in Treasury Inflation-Protected Securities (TIPS) have picked up, points out Jim Paulsen, chief investment strategist at The Leuthold Group. This trend could hurt the dollar, sooner or later. Economists calculate embedded inflation expectations by subtracting the yield on 10-year TIPS from the yield on normal 10-year bonds. The difference increases as inflation expectations pick up.