The US Dollar is up significantly against foreign currencies this year. PowerShares DB US Dollar Index Bullish (UUP), an exchange traded fund (“ETF”) that tracks the strength of the US Dollar against a basket of six other major currencies, gained 21.8% over the past three calendar quarters. In the currency world, this is a big move. People with an ear toward the financial markets are aware that the US Dollar has been strong, although they may not fully appreciate the magnitude of its strength.
Government officials like to claim that a strong Dollar is in the best interest of the country. As our country’s currency gains strength, it takes fewer dollars to buy foreign goods and services. Some of the prime beneficiaries in this scenario are importers and consumers of foreign-made goods. US citizens taking foreign vacations will also enjoy the benefits.
However, there are more than a handful of others that would disagree with the premise that a strong currency is good. As the US Dollar loses strength, our locally produced goods become more affordable to foreign buyers, and our country’s exports increase due to our enhanced competitiveness. Additionally, the US is home to many multi-national companies. Their European divisions make profits in Euros, and when the US Dollar is weak, those Euros translate into more US Dollars when brought home.
The logic is really quite simple, and it is a basic fact of life in world trade. A strong currency tends to increase imports because they are cheaper for US citizens to buy, and it decreases exports because they become more expensive in foreign markets. Therefore, it stands to reason that the strong US Dollar has resulted in more imports and fewer exports.
Given this basic understanding, it is hard to comprehend why markets were shocked by the increase in the trade deficit. Yesterday, the Bureau of Economic Analysis reported the trade deficit jumped to $51.4 billion in March, its highest level since October 2008. Economists were only expecting a $41.7 billion deficit, and it would appear they underestimated the impact of the strong US Dollar. The restarting of West Coast port activity likely played a role too. The trade deficit is part of the government’s GDP calculation. According to one analyst, the huge deficit could turn the first quarter GDP estimate of 0.2% growth into a 0.3% contraction.
Energy has completed its climb, moving from the bottom to the top in just five weeks. Materials is also being pulled higher, this week jumping from sixth to second. Energy and Materials quick rise to the top is a clear indication of the market undergoing large scale market rotation. Consumer Discretionary climbed back a notch to third, but it was the result of widespread weakness as opposed to new strength. Technology and Telecom are lower this week. Technology slipped two places to fourth, while Telecom relinquished its top-ranked spot and dropped all the way to fifth. Health Care and Industrials each slipped a spot, while Financials moved a notch higher. Consumer Staples and Utilities moved from green to red, indicating their intermediate-term momentum has turned negative. Consumer Staples, Utilities, and Health Care ar e considered defensive sectors, but they do not seem to be living up to that reputation in the current market environment. All are low or slipping in the rankings. Real Estate has been on the bottom for three weeks and in a negative trend for two weeks. Today, it plunged deeper into the red.
Small-Cap Growth moved to the top of the style rankings in mid-December. Except for a three-week period when it moved down to second place, it has been holding down the #1 spot all year. That changed dramatically this week. Small-Cap Growth plunged from first to eighth and lost all of its upside momentum. The pullback in small company stocks the past week or two has been harsh compared to their larger brethren. However, it may not be as bad as it first appears since the March lows have held so far. Mega-Cap, Large-Cap Growth, and Large-Cap Blend have ascended to the top as a result of the weakness in the Small-Cap categories. Mega-Cap was on the bottom just three weeks ago, and Large-Cap Growth was in seventh at that time. Mega-Cap at the top and Small-Caps at the bottom indicates a defensive posture, even though the sector rankings are not confirming this. In addition to the relative ranking declines of Micro-Cap and the three Small-Cap categories, all flipped from green to red this week – another sign of caution.
Chinese stocks are under selling pressure this week, but so far it hasn’t been enough to knock China off of its first-place perch in the global rankings. Despite the selling, China ETFs remain about 10% higher than they were just a month ago. Emerging Markets and Japan held their second and third-place positions this week. Both experienced a loss of momentum, but it was in line with other world markets. Latin America rose a notch, and Canada jumped two places higher. Pacific ex-Japan fell three places as Australia gave back most of its recent gains. The bottom four categories are the same as a week ago. The UK, World Equity, Europe, and the US lag the field, and the US is in dead last for a second week.
“This is just the latest reminder that claims of a renaissance in
US manufacturing just don’t past the laugh test.”
Alan Tonelson, creator of the RealityChek blog
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