Wednesday, January 09, 2013

The Rising U.S. Dollar Will Be Corporate Earnings/Market-Negative

Many large U.S. corporations derive 50%-65% of their revenues overseas. As the U.S. dollar rises, the foreign-exchange boost to overseas profits of the past decade will reverse.


One of the most glaring omissions in mainstream financial-media stock market commentary is the connection between the U.S. dollar's relative value and corporate earnings. I have often commented on this bullish consequence of a weakening dollar. 

50%-60%+ of global corporate earnings and profits are non-U.S., i.e. booked overseas in a currency other than the U.S. dollar (USD). As the dollar weakened, global corporate profits skyrocketed as earnings in euros, yen, etc. rose when stated in dollars.

In other words, overseas profits expand as if by magic when stated in dollars.

When the euro and the dollar were 1-to-1 back in the early 2000s, then 100 euros of profit converted to $100 when stated in dollars. When the euro rose to $1.60, then the same 100 euros of profit earned by the U.S. corporation in Europe converted to a stupendous $160 in profit when stated in dollars.

This explains why the Fed has been so keen to trash the dollar: it magically increases corporate profits and thus drives stocks higher. The mainstream financial media's explanation for the weak-dollar policy is that the Fed is anxious to increase exports, but this is a sideshow; exports make up less than 9% of the U.S. GDP. The real action is in corporate profits, which thanks to the weak dollar are near all-time highs of $2 trillion, about 14% of the nation's entire GDP.

Record Corporate Profits (Economix, N.Y. Times)

As the dollar strengthens, overseas profits will decline when stated in dollars.

Courtesy of Chartist Friend from Pittsburgh, here are two charts showing the long-term trend in the U.S. dollar: up.


No wonder corporate profits have risen strongly since 2002, other than that brief spot of bother in 2008: the dollar's relentless decline magically boosted global corporate profits. Since many Fortune 100 U.S. companies (McDonalds, etc.) derive 2/3 of their revenues overseas, this foreign-exchange (FX) created boost in profits is a dominant dynamic in U.S. corporate profits.


If we combine the FX drag of a rising USD with the cyclical top in corporate earnings described in What If Corporate Earnings Have Topped Out?, we discern a potential double-whammy on earnings and thus stock market valuations.


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