A Strong Dollar Has Been a Blessing and a Curse | American Funds

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Midyear Outlook

Sustainable Income | munis | july 2015
A Strong Dollar Has Been a Blessing and a Curse

But Not All Companies Benefit Equally, so Fundamental Research Is Paramount

A Strong Dollar Has Shaken Up the Competitive Landscape in Many Industries

Charts show U.S. dollar real trade-weighted index from 1970 to 2015 and comparison of Toyota and Honda  based on total returns since 2012

Sources: Left chart – Thomson Reuters Datastream. As of April 15, 2015. The U.S. dollar real trade-weighted index is a weighted average of the foreign exchange value of the U.S. dollar against the currencies of a broad group of major U.S. trading partners. The broad currency index includes the Euro Area, Canada, Japan, Mexico, China, United Kingdom, Taiwan, Korea, Singapore, Hong Kong, Malaysia, Brazil, Switzerland, Thailand, Philippines, Australia, Indonesia, India, Israel, Saudi Arabia, Russia, Sweden, Argentina, Venezuela, Chile and Colombia. Right chart – Capital Group, Rimes, company filings.

After appreciating sharply in 2014, the dollar has continued to strengthen against a broad spectrum of currencies. Since the beginning of the year, central banks outside the U.S. have moved decisively to combat low inflation and stimulate economic growth by driving down their currencies through the expansion of quantitative easing programs and interest-rate cuts.

While currency fluctuations can affect multinationals in a multitude of ways, major exporters outside the U.S. have seen a revenue windfall and a profit margin boost from the depreciation of their currencies. But not all companies benefit equally, underscoring the need for bottom-up research.

Take for instance Japanese automakers. A strong yen was a powerful headwind for these companies between 2008–2012. During this time, some carmakers chose to reduce their exposure to the yen by localizing production in the U.S., but others, such as Toyota, opted to halt North American production growth. The effect was that the company now has a much higher U.S. import ratio than its domestic competitors — and so it benefits more from a weak currency. Given that Toyota’s labor costs are significantly lower in Japan than in the U.S., the company is now seeing higher profitability than other Asian companies making cars locally in the U.S. market.

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