Will the U.S. Dollar reign supreme again?

By: Tom Nakamura • December 12, 2018
Tom Nakamura

Buoyed by a strong economy, higher interest rates and growth concerns elsewhere, the U.S. dollar had a strong 2018. We believe many of the tailwinds that the USD has enjoyed will dissipate and fill the sails of other currencies.

The economic outperformance of the United States relative to the rest of the world should start to fade as monetary and fiscal tightening start to dampen growth. Other central banks have been slower to normalize policy, most notably the European Central Bank (ECB) and the Bank of Japan (BOJ).

In Europe, while economic data has been disappointing, the central bank is staying the course in guiding the market to normalizing interest rates in the second half of 2019. Despite this, the Euro has been weak against the USD as Italian sovereign risk and Brexit uncertainty has weighed on the single currency. The U.K.’s Bank of England has held a cautious stance in light of Brexit uncertainty, but they have indicated that absent this risk that rates would be higher.

Major Rallies in USD


Source: Bloomberg LP, as of November 30, 2018. Bank of International Settlement (BIS) Real Effective Exchange Rates (REER)


In Canada, the Bank of Canada (BoC) has been firmly in a normalization path. While rate hikes have been priced in by the market, the Canadian dollar has failed to stage a significant rally. While trade uncertainty is part of the equation, the wide price differentials between Canadian and U.S. oil have caused deterioration in Canada’s terms of trade (the difference between the price of exports and the price of imports) and there is concern that the economy is not well equipped to handle further hikes.

One of our preferred measures to assess long-term valuation is the Bank of International Settlement (BIS) Real Effective Exchange Rates (REER). REERs measure a currency’s valuation against a trade-weighted basket, adjusted for differences in inflation. The BIS USD REER has had three major rallies over the past five decades.

While the most recent rally has been shorter in duration, the magnitude of the move is akin to what we saw in the late 70s through the mid-80s. This suggests to us that the strength of the USD will start to bite into the competitiveness of the U.S. economy and that long term investors should enjoy currency gains from exposure to global and emerging market portfolios.

Commentaries contained herein are provided as a general source of information based on information available as of December 7, 2018 and should not be considered as personal investment advice or an offer or solicitation to buy and/or sell securities. Every effort has been made to ensure accuracy in these commentaries at the time of publication; however, accuracy cannot be guaranteed. Market conditions may change and the manager accepts no responsibility for individual investment decisions arising from the use of or reliance on the information contained herein. Investors are expected to obtain professional investment advice.

AGF Investments is a group of wholly owned subsidiaries of AGF Management Limited, a Canadian reporting issuer. The subsidiaries included in AGF Investments are AGF Investments Inc. (AGFI), Highstreet Asset Management Inc. (Highstreet), AGF Investments America Inc. (AGFA), AGF Asset Management (Asia) Limited (AGF AM Asia) and AGF International Advisors Company Limited (AGFIA). AGFA is a registered advisor in the U.S. AGFI and Highstreet are registered as portfolio managers across Canadian securities commissions. AGFIA is regulated by the Central Bank of Ireland and registered with the Australian Securities & Investments Commission. AGF AM Asia is registered as a portfolio manager in Singapore. The subsidiaries that form AGF Investments manage a variety of mandates comprised of equity, fixed income and balanced assets.

Publication date: December 12, 2018

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