© Reuters.
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Investing.com – In a period of very strong gains that has pushed the major dollar index to its highest levels since February 2002, Morgan Stanley (NYSE 🙂 warns that the strong dollar rally is ending in a major crisis.
“The recent rally in the US dollar has created an unsustainable situation for risky assets, including equities,” said Morgan Stanley.
And the bank continued: “This rise and excessive strength of the dollar has led in the past to some sort of financial or economic crisis, according to one of Wall Street’s most pessimistic pessimists.”
global crisis
Michael Wilson, Morgan Stanley’s US chief equity strategist, wrote in a note, referring to the global financial crisis of 2008, the sovereign debt crisis of 2012 and the end of technology: an equity bubble in 2000.
Wilson sees a “definitive decline” for the benchmark S&P 500 which will come later this year or early next level at a level between 3,000 and 3,400 points.
That means a 13% drop in the middle, the benchmark futures contract fell 0.7% on Monday and, in turn, rose about 0.6% at the start of trading.
serious damage
A stronger dollar hurts the value of US companies’ international sales, with Morgan Stanley calculating that every 1% change has a negative 0.5% impact on earnings.
“S&P 500 earnings for the fourth quarter will face headwinds of around 10% from the stronger currency, as well as other issues such as higher input costs,” Wilson said.
“The reaction to FedEx Corp’s warning earlier this month showed that significant earnings disappointments are not yet measured by consensus estimates,” said the strategist, who correctly predicted a decline in US equities. ‘year.
more pessimistic
Meanwhile, Bank of America (NYSE 🙂 strategists, citing EPFR Global data, said investors are pouring in cash and moving away from almost every other asset class because they have become the most pessimistic since the crisis. global financial.
Surprisingly, such dollar strength is occurring even as other major central banks are also tightening monetary policy at a historically tight pace, according to Morgan Stanley’s Wilson.
strength of the dollar
Lisa Chalet, chief investment officer, Morgan Stanley’s Wealth Management, says the US dollar was in tears, before climbing 14% in 2022 against the basket of currencies. There are several main reasons for its rise:
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Investors believe the dollar is a safe haven in times of market volatility.
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The US economy has held up better than the economies of other countries.
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US inflation-adjusted interest rates are on the rise, thanks to one of the fastest Fed rate hikes in recent history.
Reasons for concern
What is worrying, however, is that the dollar’s relative strength is now somewhat tight as the dollar is at its 20-year high against other major currencies.
The pound has fallen to its lowest level against the dollar since 1985, while the yen has recently reached its lowest level since 1998, trading below par, which has not been the case since 2002.
This strong relative strength of the dollar can lead to periods of instability, similar to the Asian market debt crisis of 1997 or the growing trade imbalances that led to the Plaza Agreement of 1985, in which the United States decided to weaken the dollar in order to reduce those imbalances.
However, investors do not seem to appreciate the risks, as market situation data shows that investors around the world still prefer the dollar and expect it to continue to strengthen, Lisa Chalet said it is worth paying attention, as the markets could find themselves in a disorderly easing when the dollar reaches the upward end.
Three dangers
There are three specific risks to consider: Lisa Chalet, chief investment officer, wealth management at Morgan Stanley, says:
Currency extremism threatens corporate profits. For US companies with operations in other countries, including many S&P 500 companies, a stronger dollar reduces the value of their overseas earnings when converted into dollars.
At the same time, the global competitiveness of US companies is at risk as products become more expensive in terms of local currency and these factors may be felt more acutely in the coming months as global demand is likely to slow, but they do. they do not appear to be recorded in the 2022 or 2023 earnings estimates.
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