0 Since April, as market expectations for the Fed rate hike have heated up, US economic data has improved, and the momentum of a strong dollar has gradually risen. Although the US dollar index has declined since mid-August, the upward trend of this round of US dollar index may not be reversed quickly under the strong economic fundamentals of the United States.
Figure 1. The trend of the US dollar index since the beginning of the year
. Against the background of a strong dollar, the various situations that have been staged in history seem to be yesterday once more, especially the performance of developed markets and US stock markets is also very similar. If you don't believe it, read it down.
1. The US dollar appreciation cycle, the stock market performance of developed countries is superior
Historically, the US dollar index has experienced three major appreciation cycles, namely from July 1980 to February 1985, lasting about 56 months, and the US dollar index rose 87.2%; from April 1995 to February 2002, lasting about 71 months, appreciating 45.8%; from April 2011 to December 2016, it lasted about 69 months, and the US dollar index appreciated 41.7%.
Figure 2. Since 1980, the US dollar index has appreciated three times in large cycles
. During the three major appreciation cycles of the US dollar index, global funds have returned to the developed country market and withdrawn from emerging markets. The former performs better than the latter. It shows the characteristics of a bull market in developed countries and a bear market in emerging countries. In the three appreciation cycles of the US dollar from the front to the back, the MSCI developed markets rose by 34%, 45%, and 26%, respectively. The MSCI emerging markets index was released in 1988, so during the last two strong US dollar periods with data, the MSCI emerging markets fell by 26% and 28%, respectively.
As can be seen from the figure below, in the two strong dollar cycles after the start of 1995 and 2011, emerging countries have plummeted compared with developed countries in stock market performance. After 1990, the two largest excess returns of developed markets compared with emerging markets were both gained during the strong dollar period.
Figure 3. US dollar index vs. emerging markets performance. Before 1988, the MSCI Hong Kong Index replaced the emerging market index
2. The performance of US stocks in the strong dollar cycle
The US stock market has achieved good performance in previous strong dollar cycles, and the mainstream market indexes can basically rank in the top three.
In the first strong dollar cycle that started in 1980, the S&P 500 index rose nearly 60%.
Figure 4. Performance of major global stock markets from 1980 to 1985 (%)
In the second round of strong dollar cycle that started in 1995, the Dow Jones Index rose by more than 140%.
Figure 5. Performance of major global stock markets from 1995 to 2002 (%)
In the third round of strong dollar cycle that started in 2011, the S&P 500 index rose nearly 70%.
Figure 6. Performance of major global stock markets from 2011 to 2016 (%)
3. The common driving force of the "super strong dollar" - the US economy is the only one
Although the logic behind the above three super strong dollar cycles is not exactly the same, there are still common driving force.
The first super cycle began with the Latin American crisis. Before 1983, although the US economy alone was not enough to support the strong appreciation of the US dollar, the interest rate of commercial banks at as high as 15.75% in 1981 attracted external capital to buy US Treasury bonds, and the US dollar exchange rate was greatly raised. As the US economy rebounded after 1983, the US dollar continued to rise.
The second super cycle started with the strong US economy. After 2000, although the US economy began to decline, the unemployment rate and inflation were still relatively stable, and its performance was still better than most global economies in the context of the East Asian financial crisis.
The third super cycle started in 2011. The US economy began to recover after experiencing the subprime mortgage crisis. During this period, the strong performance of the US dollar has benefited from the steady upward trend of the US economy from beginning to end.
After reading the above analysis, it is not difficult for you to find that behind the three dollar super cycles, there is strong support from the fundamentals of the US economy. Either the US economy has maintained a good absolute growth rate, or the US economy has performed better than other economies.
4. Super strong US dollar may strengthen the upward trend of US stocks
US dollar cycle will have an impact on the exchange rates of major currencies, and its fluctuations will more directly affect global capital liquidity and allocation preferences. On the one hand, the strength of the US dollar exchange rate is a mapping of its monetary policy. On the other hand, the United States is still the core of absorbing and redistributing global liquidity. During the US dollar appreciation cycle, assets denominated in US dollar have better returns prospects and safe-haven stability, attracting investors to turn to US dollar assets. The super strong US dollar may further strengthen the upward trend of US stocks.
Under the combined effect of the Fed's expectation of interest rate hikes, stable US Treasury yields, appreciation of the US dollar and US economic growth, the global investment portfolio has been readjusted, emerging markets have encountered capital outflows, and the US market may once again act as a safe haven for global funds. In fact, since mid-to-late April, according to EPFR data statistics, global funds have begun to continue to flow out of emerging market bonds and stocks and return to the US market. This trend has not been significantly reversed until recently, basically consistent with the strengthening trend of the US dollar.
5. Summary
Looking at the three major super dollar cycles since 1980, we see that the stock markets in developed countries have performed significantly, while the performance of the US market is particularly impressive. Although the macro background and logic behind these three strong US dollar periods are not exactly the same, we still see that the strong US economy has acted as an important driving force in previous US dollar cycles. It is hard to say whether this round of US dollar rise can form a cycle, but judging from the existing economic data, the US economy is still optimistic in the future, and the trend of the US dollar strengthening is still logically supported.
