U.S. dollar rally wipes out strong stock gains
Fed hikes are on the horizon and likely [to] strengthen the dollar further
U.S. stocks wiped out their gains for the year Tuesday as the U.S. dollar rallied to a 12-year high amid emerging signs that the U.S. Federal Reserve may move to raise interest rates in the next few months.
The S&P 500 fell 35.27 points, or 1.7%, to 2,044.16. That left the index, which rallied more than 11% last year, down 0.66% for 2015. The Dow Jones industrial average, meanwhile, tumbled more than 300 points, or 1.85%, to close at 17,662.94.
Stocks fell as the U.S. dollar strengthened against a basket of major global currencies, reflecting expectations that strong U.S. economic growth will force the Fed to move on rates by June.
“The dollar’s going up so much so fast you wonder what it does to U.S. economic growth down the road, to profitability,” said Jim Paulsen, chief investment strategist at Wells Capital Management in Minneapolis.
Stocks have been declining since Friday, when data showed that the U.S. unemployment rate fell to 5.5% in February, the top end of a range considered normal for U.S. employment by Fed policy-makers. The return to full employment six years after the recession has triggered expectations that the Fed will need to begin to tighten policy to avoid overheating the U.S. economy.
In his final speech as a U.S. central bank official, Dallas Fed president Richard Fisher told an audience in Houston on Monday the Fed needs to raise interest rates soon or risk triggering a recession.
“If we are serious about limiting full-employment overshoot, I posit that prompt action to scale back policy accommodation is likely to prove imperative,” he said.
U.S. stocks this month hit record highs, including a return to the 5,000 level by Nasdaq for the first time since the dot-com crash in 2000.
U.S. stocks have been rallying for the past seven years, boosted by the Fed’s ultra-accommodative monetary policy, which has seen trillions of dollars of quantitative easing and record low interest rates pumping liquidity into the U.S. financial system.
The Fed ended its QE program last October, and now market watchers are concerned about what effect the first interest rate hikes in nearly a decade will have on stocks.
“Strong job growth and falling unemployment despite still slow [gross domestic product] suggests that Fed hikes are on the horizon and likely [to] strengthen the dollar further,” said David Bianco, chief U.S. market strategist at Deutsche Bank. “We see risk of a near-term 5%-to-9% dip [in the S&P 500].”
With the return to full employment, most economists now forecast that the first interest rate hike will occur during the Fed’s June policy meeting.
A rate hike is not the only concern for markets. The breakneck rally in the U.S. dollar has been giving way to increasing concerns about profitability for U.S. companies. The greenback has climbed more than 23% in the past year against a basket of major international currencies.
A number of U.S. multinational companies have said the “unprecedented” rise in the dollar has hurt international exports and sales. Major companies such as Microsoft Corp., Coca-Cola Enterprises Inc. and Johnson & Johnson have warned that their earnings will be hurt this year because of the dollar’s strength.
Mr. Bianco said those risks will continue to weigh on investor minds, but expect them to wane later in the year as the focus shifts to the Fed’s policy.
“In the meantime, EPS risk remains to the downside on [the U.S. dollar], whereas the debate on magnitude of Fed hikes and how bond yields and P/Es react will last all year,” he said.