How Do Currency Fluctuations Impact International Markets?

How Do Currency Fluctuations Impact International Markets?

Posted on August 07, 2017

Macro- Market State (Based on the S&P 500)

Market State 1- Bullish/Rational (18 trading days):† The S&P 500 continues its sideways trading range, finishing flat for the week (+0.20%).† This is largely due to the low and decreasing volatility in the market.† Market State 1 is, however, the most bullish market state, with 85% of all new market highs taking place in Market State 1.† So far, this year, the market has seen 29 new all-time highs, with 22 of them occurring while in Market State 1.

Canterbury Volatility Index (CVI 32): †The market continues at a slow pace.† This week, the S&P 500 matched its previous CVI low for the year at 32.† As has been stated before, when volatility is exceedingly low (CVI less than 50), the market is prone to have spikes in volatility resulting in upwards or downwards movement.† Earlier this year, when CVI was at this low point, the market experienced a one day pop in volatility and an outlier return day (return outside of +/- 1.50%).† Following this spike, the market continued behaving bullishly and put in a new all-time high seven days later.† So, while low CVI is prone to one-day spikes, it will not cause a market shift overnight.† Canterbury continues to monitor all market vitals each day.

The U. S. Dollar has substantially underperformed most major country currencies. This yearís weakening of the dollar has helped boost the returns of most international country Exchange Traded Funds (ETFs). In fact, based on the Canterbury Portfolio Thermostatís ďVolatility Weighted Relative Strength Ranking,Ē the highest ranked ETFs are all international country ETFs.

The following is an example of how a weak dollar can benefit U. S. investors who choose to own international stocks and funds:

Letís say that a U. S. dollar based investor purchases shares of the British stock index Exchange Traded fund (the FT 100). The FT 100 ETF goes up 10% in value. In addition, letís assume that the value of the British Pound also increased by another +5% versus the U. S. Dollar.† In this example, the U. S. investor would have a total paper gain 15%. The index fund went up by 10% and, being British Pound denominated, would have also added an additional 5% return as a result of the gain the Pound versus the dollar.† In other words, the U. S. investor made 10% on the ETF and 5% on the exchange between the two currencies.† The opposite would be true if the Dollar were to advance versus the Pound.

Below is two charts. †The Chart 1 shows the decline (year to date) in the value of the U.S. dollar versus several foreign currencies.† Since the start of the year, the dollar has fallen around 8% compared to a basket of foreign currencies, while the foreign currencies displayed have risen in the range of 4-12% compared to the dollar.† Chart 2 shows the equity ETFs of each of the countries displayed in the currency chart.†

Notice that the S&P 500 (SPY) has underperformed many of the foreign equity ETFs.† Much of this underperformance is accredited to the decline in the value of the dollar (displayed in chart 1).† A U.S. investor who invests in foreign equity ETFs is getting both the benefit of an increase in the value of the underlying index and has benefited from the exchange rate of dollars to the foreign currency.†

Chart 1: Decline in the U.S. Dollar Compared to Increase in Foreign Currencies

Source: AIQ

Chart 2: S&P 500 ETF (SPY) versus Foreign Equity ETFs

Source: AIQ

Bottom Line:
The above example illustrates the impact of combining just two factors (market pricing and currency).† Effective portfolio management requires a process to adapt to many variables and factors over time. Such a process must be interactive, comprehensive and adaptive.

Canterbury Investment Management: Tom Hardin

More About Tom Hardin

As Chief Investment Officer, Tom has more than 30 years of experience in the investment management industry and has a broad breadth of knowledge. He is known as an innovator, educator and has been revolutionary in the advancements of portfolio and risk management.

Every effort was used to provide accurate data and mathematical calculations to provide, what we believe to be, accurate results. Canterbury Investment Management, LLC, and its principal owners, make no guarantee of completeness or accuracy of data or calculations as well as conclusions of any statistical data or information contained in the simulation illustrated on this page. Past results or performance is in no way a guarantee of future results. †