Financial Professionals

January 13th, 2025

The Strong Dollar’s Impact On Markets And Economy In 2025

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What a Stronger U.S. Dollar Means for Markets and the Economy

The U.S. dollar has been getting stronger. In 2024, the dollar gained against every major peer country’s currency, rising especially sharply against emerging markets countries. The fourth quarter of 2024 saw an especially sharp appreciation versus a basket of developed market currencies (chart below), marking the biggest rally in nearly a decade. All told, the greenback enters 2025 at a multi-year high.1

The U.S. Dollar Has Been in a Strengthening Trend Since 2021

Source: Federal Reserve Bank of St. Louis2

To help readers gain an understanding of why the U.S. dollar has been so strong, consider the list of factors below that tend to drive currency strength:

· Strong economic growth relative to peer countries.
· Fertile ground for foreign direct investment, often in anticipation of high rates of future earnings and economic growth.
· Relatively attractive yields on risk-free or very low risk sovereign debt, with an expectation that rates will not move materially lower in the short- to medium-term.
· Pro-cyclical policies expected from the ruling government (fiscal policy, deregulation).

The United States checks all these boxes.

The first two factors—strong growth and attractive investment opportunities—have been in place for years now, aided greatly by the boom in artificial intelligence capex and enthusiasm for what lies ahead. The second two factors—attractive yields and pro-cyclical policy—are more recent, particularly as the Fed has inserted more cautious language regarding the future path of rates.

Looking ahead in the new year, the Trump administration’s policies of looser regulation, lower taxes, and across-the-board tariffs could bolster the dollar further if the policies translate to growth and higher inflation, since a Fed ‘pause’ on lowering interest rates would raise incentives to hold dollars. Dollar tailwinds could strengthen further if Europe and China show any additional signs of economic weakness.

In my view, the most high-level view of dollar strength and weakness is embedded in the question, is the United States the most attractive country for investment this year? I think the answer is yes, which also means I could see the dollar getting even stronger as 2025 unfolds.

From an investment standpoint, there are arguments in both directions about the ‘dangers’ of too much strength or too much weakness in the dollar. A weak dollar raises the cost of imports, reducing the purchasing power of U.S. consumers and businesses that rely heavily on imports to drive domestic sales.

A strong dollar comes with its own drawbacks as well. U.S. exports become more expensive for foreign buyers, which can hurt multinationals that derive a sizable percentage of earnings from abroad. A strong dollar also means foreign tourists have less to spend with they visit, and countries with large amounts of dollar-denominated debt can experience higher interest payments—which can sap government investment and global demand.

Much like the impact of a strong vs. weak dollar is not very straightforward in economic terms, there is also no correlation or causal link to stock market performance. There are too many other factors—like earnings and economic growth—driving the equity markets for the dollar to have an outsized influence.

The chart below looks at the nominal U.S. dollar index (blue line, left axis) and the performance of the S&P 500 (red line) over the last 10 years. As investors can see, stocks have performed very well during periods when the dollar was weakening, and stocks have also rallied when the dollar strengthened substantially (2024 being a prime example). Put simply, the fact that there is no significant correlation historically between dollar strength or weakness and market returns tells us we should be focused on other fundamentals when making investment decisions.

The U.S. Dollar vs. Foreign Currencies (blue line, left axis) and S&P 500 (red line, right axis)

Source: Federal Reserve Bank of St. Louis3

Bottom Line for Investors

The strong dollar outlook for 2025 is far from assured. There’s a good argument that U.S. exceptionalism (strength relative to the world) is already priced into the dollar, such that better-than-expected economic performance from the rest of the world could bolster foreign currencies. U.S. federal budget deficits are also significantly larger than they were four years ago, and it remains to be seen how an extension of 2017’s tax cuts will be financed. Much remains to be seen.

For markets, however, the path of the dollar may not matter much in 2025. A strengthening dollar historically corresponded with one of the best periods for stocks, 1995 – 2000, but also one of the worst: the 2008 bear market. At the same time, the dollar’s weakening period from 2003 – 2006 did not adversely impact the economic expansion and stock market recovery then, just like a strong dollar is not likely to shift the economy or market’s direction now.

Disclosure

1 Wall Street Journal. December 31, 2024. https://www.wsj.com/finance/currencies/why-the-dollars-epic-rally-could-have-a-little-further-to-run-680354f6?mod=djemMoneyBeat_us

2 Fred Economic Data. December 30, 2024. https://fred.stlouisfed.org/seriesBeta/DTWEXBGS#

3 Fred Economic Data. December 30, 2024. https://fred.stlouisfed.org/seriesBeta/DTWEXBGS#

DISCLOSURE

Past performance is no guarantee of future results. Inherent in any investment is the potential for loss.

Zacks Investment Management, Inc. is a wholly-owned subsidiary of Zacks Investment Research. Zacks Investment Management is an independent Registered Investment Advisory firm and acts as an investment manager for individuals and institutions. Zacks Investment Research is a provider of earnings data and other financial data to institutions and to individuals.

This material is being provided for informational purposes only and nothing herein constitutes investment, legal, accounting or tax advice, or a recommendation to buy, sell or hold a security. Do not act or rely upon the information and advice given in this publication without seeking the services of competent and professional legal, tax, or accounting counsel. Publication and distribution of this article is not intended to create, and the information contained herein does not constitute, an attorney-client relationship. No recommendation or advice is being given as to whether any investment or strategy is suitable for a particular investor. It should not be assumed that any investments in securities, companies, sectors or markets identified and described were or will be profitable. All information is current as of the date of herein and is subject to change without notice. Any views or opinions expressed may not reflect those of the firm as a whole.

Any projections, targets, or estimates in this report are forward looking statements and are based on the firm’s research, analysis, and assumptions. Due to rapidly changing market conditions and the complexity of investment decisions, supplemental information and other sources may be required to make informed investment decisions based on your individual investment objectives and suitability specifications. All expressions of opinions are subject to change without notice. Clients should seek financial advice regarding the appropriateness of investing in any security or investment strategy discussed in this presentation.

Certain economic and market information contained herein has been obtained from published sources prepared by other parties. Zacks Investment Management does not assume any responsibility for the accuracy or completeness of such information. Further, no third party has assumed responsibility for independently verifying the information contained herein and accordingly no such persons make any representations with respect to the accuracy, completeness or reasonableness of the information provided herein. Unless otherwise indicated, market analysis and conclusions are based upon opinions or assumptions that Zacks Investment Management considers to be reasonable. Any investment inherently involves a high degree of risk, beyond any specific risks discussed herein.

The S&P 500 Index is a well-known, unmanaged index of the prices of 500 large-company common stocks, mainly blue-chip stocks, selected by Standard & Poor’s. The S&P 500 Index assumes reinvestment of dividends but does not reflect advisory fees. The volatility of the benchmark may be materially different from the individual performance obtained by a specific investor. An investor cannot invest directly in an index.

The Russell 1000 Growth Index is a well-known, unmanaged index of the prices of 1000 large-company growth common stocks selected by Russell. The Russell 1000 Growth Index assumes reinvestment of dividends but does not reflect advisory fees. An investor cannot invest directly in an index. The volatility of the benchmark may be materially different from the individual performance obtained by a specific investor.

Nasdaq Composite Index is the market capitalization-weighted index of over 3,300 common equities listed on the Nasdaq stock exchange. The types of securities in the index include American depositary receipts, common stocks, real estate investment trusts (REITs) and tracking stocks, as well as limited partnership interests. The index includes all Nasdaq-listed stocks that are not derivatives, preferred shares, funds, exchange-traded funds (ETFs) or debenture securities. An investor cannot invest directly in an index. The volatility of the benchmark may be materially different from the individual performance obtained by a specific investor.

The Dow Jones Industrial Average measures the daily stock market movements of 30 U.S. publicly-traded companies listed on the NASDAQ or the New York Stock Exchange (NYSE). The 30 publicly-owned companies are considered leaders in the United States economy. An investor cannot directly invest in an index. The volatility of the benchmark may be materially different from the individual performance obtained by a specific investor.

The Bloomberg Global Aggregate Index is a flagship measure of global investment grade debt from twenty-four local currency markets. This multi-currency benchmark includes treasury, government-related, corporate and securitized fixed-rate bonds from both developed and emerging markets issuers. An investor cannot invest directly in an index. The volatility of the benchmark may be materially different from the individual performance obtained by a specific investor.

The ICE Exchange-Listed Fixed & Adjustable Rate Preferred Securities Index is a modified market capitalization weighted index composed of preferred stock and securities that are functionally equivalent to preferred stock including, but not limited to, depositary preferred securities, perpetual subordinated debt and certain securities issued by banks and other financial institutions that are eligible for capital treatment with respect to such instruments akin to that received for issuance of straight preferred stock. An investor cannot invest directly in an index. The volatility of the benchmark may be materially different from the individual performance obtained by a specific investor.

The MSCI ACWI ex U.S. Index captures large and mid-cap representation across 22 of 23 Developed Markets (DM) countries (excluding the United States) and 24 Emerging Markets (EM) countries. The index covers approximately 85% of the global equity opportunity set outside the U.S. An investor cannot invest directly in an index. The volatility of the benchmark may be materially different from the individual performance obtained by a specific investor.
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