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People try and make investing more difficult than it needs to be.
Analysts pull obscure data points and historical market trends to justify their investment outlook.
But while factors like earnings, valuation, and liquidity are supremely important, there’s one more that affects nearly every company in the world…
…and it’s at a critical inflection point.
Listening to the Market
There are a few reasons to feel good about the stock market right now.
First, the US economy is in good shape. The latest US GDP report came in at 2.4%, topping expected 2.0% growth:
Second, consumers are still spending. Since nearly 70% of the US economy is fueled by consumer spending (i.e. you and me buying goods and services), that means the engine of the US economy is still humming:
Third, inflation continues to come in below market expectations. While the latest CPI saw an uptick for the previous month, the trend is clearly lower:
Fourth, the labor market remains resilient as the unemployment rate sits at a 40-year low:
Lastly, S&P 500 earnings have been solid, with earnings growth expected to accelerate in coming quarters:
All seems to be going well with the US economy. But for this rally to sustain, the one thing we need to continue is the “weakening” of the US dollar.
The US Dollar is Weakening
A falling or “weakening” of the US dollar relative to other currencies is good for stocks for a few reasons.
One, a weaker dollar makes stuff the US sells abroad cheaper for other countries. That means more sales for US businesses, which can juice corporate revenues and earnings.
A weaker dollar can also give commodities a boost—think oil, copper, and gold. We’ve already started to see this play out with oil prices back near a 6-month high (if you want to see what oil stock I’m buying to play this trend, click here).
Lastly, multinational corporations like Apple (AAPL), Microsoft (MSFT), and Nvidia (NVDA) get a boost from a weaker dollar. That’s because it makes their overseas profits look even better when converted back to US greenbacks.
This weakening of the US dollar relative to other global currencies has helped fuel the 2023 bull market.
But this trend is at a key inflection point.
The Most Important Chart in the World
The weakening US dollar has helped drive stocks higher this year.
But it’s now at a key level of technical support:
For the rally to keep chugging along, the US dollar needs to keep weakening relative to other currencies like the Japanese yen, Euro, and British pound.
And there’s one reason this will likely continue: the Federal Reserve.
The US central bank is near the end of its rate hike cycle due to falling inflation. On the other hand, other major economies are still dealing with high inflation.
All things being equal, when one central bank is raising interest rates aggressively and another is slowing interest rate hikes, the currency of the central bank aggressively raising rates will see their currency strengthen.
And with natural gas prices spiking 40% in Europe this week…
…European central banks will be forced to keep hiking interest rates for the foreseeable future.
As long as this dynamic continues, the dollar should continue to weaken. That will benefit US stocks and keep the bull market chugging along.
I’ve Been Expecting This…
I know some people are thinking, “Robert, didn’t you make a five-part video series on why the US dollar will remain the world’s reserve currency?”
My answer to that is – yes! Over the long-term, I expect the US dollar to remain the world’s reserve currency and currency of choice in international trade for a variety of reasons.
But in the short-term, I expect the US dollar to weaken relative to other currencies. This isn’t a new view for me, as I opened a position in the Invesco US Dollar Bearish Fund (UDN) earlier this year:
And with inflation moderating and the Fed likely pulling back on interest rate hikes while energy prices surge in Europe, all signs are pointing to a relatively weaker US dollar in the near-term.
That should be good for stocks, which is why I’m continuing to add to my positions on this pullback.
What We Need to Go Right
For this rally to continue, we need the following to happen over the next 12 months:
- The US dollar to continue to weaken
- Inflation stays subdued and near the Fed’s 2% target
- The Federal Reserve pauses and then cuts interest rates
- Consumers remain confident in the economy and keep spending
- S&P 500 earnings growth accelerates further to bring down valuations
All of these are in the realm of possibility. But we need to stay vigilant as if any of these factors fall by the wayside (like the US dollar strengthening relative to global currencies), it could be bad news for a market that’s currently priced for perfection.
And if that happens, I’ll be sure to let you know so we can adjust our strategy.
Stay safe out there,
Robert