The real trade-weighted USD exchange rate (using a narrow and a broad definition) moved to 12.5-year highs in July after the exchange rate moved above March’s level. The more timely nominal trade-weighted USD exchange is basically at March’s high level as of 8/7 and given the currency moves of the last couple of days should be breaking out to a new multi-year high over the next several days. The fact that the USD seems to again be on a march higher will have some profound impact on commodities, emerging market equities and US profit margins if the relationships in the charts below continue to hold.
First, it it probably means that the pain felt in the commodities market has a ways to go. While the CRB continue commodity index has declined by about 37% since the dollar began its structural bull market in 2011, it seems that the index could still decline by another 50% as the dollar strengthens.
Second, emerging market equities may be ready to dump another 50% of their value as well. EM stocks peaked in 2011 just a few months before the USD began its structural bull move and could close the gap in the chart below in the coming months or years.
Lastly, US profit margins may be due for a contraction. US profit margins, as calculated using national accounts data, peaked one quarter after the USD made a 16-year low. Margins have since contracted by 159 basis points with potentially another 200-300 bps of more contraction ahead.
