What goes up when the dollar goes down

As the dollar falls, what can investors do both to protect their portfolios and to make money? Buy high-yielding European stocks, gold and commodities, and then holiday in New York.

The US currently imports far more goods and services than it exports - to the tune of about $660bn a year. That's clearly not sustainable in the long term. It has been possible until now largely because investors have believed that the US economy is a stable bet in the long run. They have, therefore, seen US government debt as a nice, easy and safe investment. In particular, Asian central banks have been underwriting the US deficit through massive purchases of US Treasury bonds. But as the banks and other investors become more nervous about the huge size of the US deficit, they start to see dollar-denominated assets, and the dollar itself, as less attractive. So they've been buying less and the dollar has been falling as a result. It recently touched an all-time low against the euro of $1.30. That said, don't count on the dollar just going down. Nothing moves in a straight line and there is every chance that the dollar is now due for a bounce. Long term, however, it seems pretty clear that the only way for the dollar is down.

That's good for America

For now that's good for America. Despite frequent mutterings from Washington about their continuing support of a strong dollar' policy, a managed decline in the price of the dollar suits the US just fine. A weaker dollar means that American goods and services become cheaper abroad, which acts as a stimulus for further economic growth there. However, the danger is that investors could decide at once that the further big dollar falls are inevitable: the resulting rush to sell would turn a steady decline into an all-out crash, destabilising the global economy and making interest-rate rises and higher inflation more likely.

But how can you benefit?

Any individual or business earning money in a rising currency and/or spending money in a falling currency stands to gain from movements in currency prices.That means British tourists shopping in New York are set for a very merry Christmas, whereas Americans who live in Europe but get dollar salaries from their US employers are feeling much less cheerful. For essentially the same reason, American exporters gain from a weaker dollar because their goods cost foreign customers less to buy, so they buy more. Similarly, firms with subsidiaries in countries with a stronger currency will benefit when their profits are converted back into dollars. With this in mind, Goldman Sachs points to Accenture, with 44% of earnings non-dollar, Flextronics with 41%, and Hewlett-Packard, also with 39%. All stand to benefit from strong foreign earnings. But remember: UK investors considering buying dollar-denominated shares will inevitably be exposed to the weakening dollar themselves. If the dollar continues to fall, the shares could end up worth less in sterling terms when they come to sell, even if the dollar stock price has risen. That means this may not be the best way for non-US investors to approach the falling dollar.

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Buy Europe in the short term

Instead, one short-term way to approach the problem may be to consider how the big global investing institutions might react to the falling dollar, says Ben Wright, writing in The Business. According to State Street Global Markets, equity investors are already starting to pull money out of the US and pour it into equity markets in the eurozone instead with a view to earning money in euros not dollars. And their targets? Companies operating in the eurozone with no exposure to the dollar. That means we could see upticks in the share prices of firms such as the large French banks - BNP Paribas, Socit Gnrale and Crdit Agricole - which earn most of their revenues domestically. Banks in the Nordic region, Italy and Germany will also benefit. The same is true of the European utilities and telecoms sectors, which tend only to have domestic revenues. Merrill Lynch analyst David Bowers has also screened for the companies that usually do best when the euro strengthens against the dollar. European food, utilities and real-estate companies dominate, with Belgium's supermarket operator Colruyt and electricity supplier Electrabel topping the list and brewer Heineken further down. These are some of Europe's "most defensive stock names".

Concentrate on yield long term

The companies that will gain the most will be those that spend dollars but earn their money in non-dollar currencies. That means that sensible investors will continue to seek out high-yield plays that pay in sterling or in euros. Act like a multi-national corporation - buy high-yielding investments in the UK or Europe while spending as much as possible in America. Your income will go up as your expenses go down. Already, American-made products, real estate and vacations are much cheaper than they were a year ago. In the UK, that means looking to the UK and to the utilities and financial sectors in particular. United Utilities still yields 8%, Severn Trent 5.4%, Lloyds Bank 7.9% and Friends Provident 7.9%. Those sterling yields are going to look particularly good when you are out and about shopping in New York.

Buy gold

Almost all economists agree that the dollar must go down, says The Daily Reckoning's Bill Bonner. But against what? Europe's money supply is actually increasing faster than America's. In Britain, the broad money supply is rising twice as fast as America's. And every major central bank in the world is committed to keeping its currency from rising too sharply against the dollar. But if the dollar is to go down, it has to go down against something. That is probably going to be gold, the world's oldest and most reliable money, the anti-dollar, the natural rival of all paper currencies, and the thing to which investors turn when other currencies let them down. This year, the dollar has fallen fast against gold, and most likely gold will continue to rise as the dollar falls. And if the dollar slide turns into a dollar crisis, gold could suddenly soar. The inflation crisis of the late 1970s drove gold up more than 2,000% in just five years. A dollar crisis could have the same sort of result - especially if it were linked to inflation. An omen? US producer prices rose 1.7% in October - the biggest increase in 14 years.

and commodities too

But even better than gold, says investment legend Jim Rogers, are commodities. Rogers thinks that America's high levels of debt will eventually force a crisis, which will in turn cause investors to lose faith in US stocks, bonds and the dollar. Instead, they will want real assets - such as commodities - and that will push the price up, especially as commodities are typically quoted in dollars. But there's something else pushing up commodity prices. Cotton, sugar and coffee, says Rogers, are selling at historically low prices. While prices are low, demand is growing rapidly. As Asia gets richer, its consumers spend more. But consumer items - including food - cannot be made without raw materials. According to Rogers, commodities, the companies that produce them, and the countries that export them will be big winners in the years ahead. Their prices will go up in dollars, but they'll also rise in every other currency too.