10 Reasons Why the Dollar Will Strengthen

By Louis Basenese. Mr. Basenese is the Associate Investment Director of The Oxford Club and regular contributor to Investment U. The following article first appeared in Investment U.

The world is short the dollar right now. But that could be a big mistake…

The outlook for the ailing greenback – finally – is getting healthier, which makes it the perfect time to go long.

I know this is a wildly unpopular and completely contrarian stance, so let’s get right to it. Here are the 10 reasons I think the dollar’s headed for an inevitable reversal:

1. If Not the Dollar… Then What?
With the greenback getting clubbed, China shocked the world recently by suggesting it would diversify away from the dollar. To which I simply say – into what? The likely suspect is the euro, but there’s not enough liquidity to handle the demand. Plus, it’s still a pre-pubescent, experimental currency that not one government can invest in with 100% faith. Moreover, with two-thirds of foreign reserves in dollars, it would take more than eight years to replace the dollar as the currency of choice. Bottom line, while many complain about the decline of the dollar, there’s not much they can do about it now… except complain.

2. The Fed: From Enemy to Ally
Currently, the U.S. Federal Reserve is trading off higher inflation and a weak dollar for the promise of economic growth. In the short-term, this obviously weakens the greenback. But once the credit markets return to normal (or almost normal) and a recession is averted or exited, expect the Fed to act swiftly, raising rates as its main priority swings back to fighting inflation. This will instantaneously strengthen the dollar.

3. What Goes Down Eventually Goes Back Up
As we speak, the dollar is trading at multi-decade lows versus the British pound, Canadian “loonie,” the euro and the Japanese yen. The cyclicality of the markets instructs us that the pendulum will eventually swing back the other way. And with so many multi-year lows being hit, I’m confident we’re near the turning point.

4. Warren Buffett, Jim Rogers and Bill Gross CAN Be Wrong
Believe it or not, three of perhaps the greatest investors of our time are not right 100% of the time. As we speak, all three hate the dollar…

“We’ve told all of our clients that if you only had one idea, one investment, it would be to buy an investment in a non- dollar currency.” ~ Bill Gross

“We still are negative on the dollar relative to most major currencies, so we bought stocks in companies that earn their money in other currencies.” ~ Warren Buffett

And Jim Rogers sold his house and all his possessions denominated in dollars because “the dollar is collapsing.”

And I think they’re wrong. Plus, they’re entitled to change their minds. And they won’t put out a press release if they do, as another legendary investor proved…

"A trader named Jean-Manuel Rozan once spent an entire afternoon arguing about the stock market with George Soros. Soros was vehemently bearish, and he had an elaborate theory to explain why, which turned out to be entirely wrong. The stock market boomed.

"Two years later, Rozan ran into Soros at a tennis tournament. ‘Do you remember our conversation?’ Rozan asked. ‘I recall it very well,’ Soros replied. ‘I changed my mind, and made an absolute fortune.’”

In the end, being a dollar bear just on account of these three investment greats is a risky move. They’re human just like the rest of us… and destined to be wrong every now and again. I’m convinced that’s the case this time because the dollar downturn is getting too long in the tooth.

5. Pop-Culture Even Hates It
In a recent music video, rapper Jay-Z opts for a suitcase full of euros instead of dollars. And supermodel Gisele Bündchen now wants to be paid in euros. I don’t think you can get a more clear-cut contrarian indicator than popular culture “hating” on the dollar to such extremes.

6. The Most Unlikely & Unsophisticated Are Speculating
More troubling is the fact the most unlikely and unsophisticated “investors” are now speculating against the dollar – wine merchants and antique shop owners. Reuters reports “Euros Accepted” signs are popping up throughout New York City. Why?

“We had decided that money is money and we’ll take it and just do the exchange whenever we can with our bank," Robert Chu, owner of East Village Wines. Not to be outdone, antique storeowner Billy Leroy takes euros and “doesn’t even bother to exchange them,” according to Reuters.

Sounds like two sound investment plans to me!

Look, when the wine merchants and corner store owners start trying to earn an extra buck by speculating in the foreign currency market, instead of focusing on their business, we’re near a bottom. Think of it as almost the equivalent of the day-trading phenomenon we witnessed during the dot-com days, just in the currency markets. People giving up their professions to make a living doing something they know almost nothing about.

7. Psst! Did You Hear About the Amero?
Another contrarian sign we’re at an extreme bottom – talk of the Amero or Americo is popping up again. First floated by Dr. Herbert G. Grubel of the Fraser Institute in 1999, this is largely a conspiracy theory that the governments of Canada, the U.S. and Mexico are secretly planning to launch a unified currency to compete with the euro. This is such a bad idea on so many levels I can’t get into them all here. Just trust me, the world’s largest economy is not going to relinquish macroeconomic control by opting for a unified currency.

8. A REALLY Weak Dollar Helps No One
OK, back to more acceptable arguments. While many countries may dislike Americans, they dislike a really weak dollar even more. It makes U.S. exports attractive and all but forces them to patronize the “enemy.” And in turn, their manufacturing industries suffer. So don’t expect many governments to fight a modestly stronger dollar. If anything, when the reversal begins, they might encourage it.

9. We’re Not Decoupled Yet
A slowing U.S. economy affects the rest of the world… with a delay. According to Stephen Roach of Morgan Stanley (MS), “For Euroland, historically, the delay has been one or two quarters.” I’ll concede decoupling is a possibility, but not this time around. We’re already seeing weakness here spark sell-offs abroad. So while this may be last time the rest of the world comes down with us, they will nonetheless. In turn, this will provide a bottom for the dollar.

10. Stocks Love A Strong Dollar
If you’re not with me on the bullish dollar stance yet, but are invested in equities, you need to reconsider. Despite conventional wisdom, a weak dollar is NOT beneficial to the stock market. And here’s the proof from the Bespoke Investment Group:

“Since 1967, the dollar has had four up cycles and five down cycles. The average return of the S&P 500 during the four up cycles is a gain of 86.6%, which is over five times the average return of 16.4% during dollar declines.”

So if you want your stocks to go up (by a wide margin), history shows you should also want the dollar to go up.

In short, the dollar might be traded like funny money right now, but it won’t last forever. In the near-term, I do expect more pressure to the downside, but a turn is coming. The fact that the dollar didn’t utterly collapse when the Fed cut interest rates 125 basis points in eight days only strengthens my conviction here.

And rest assured, when the dollar bears turn into dollar bulls, the change will come swiftly.