Currency Exposure Amid a Weaker U.S. Dollar

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Richard Lawrence

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Richard Lawrence. I’m a senior vice-president in the portfolio management team at Brandywine Global Investment Management in Philadelphia.

On currencies, we continue to be constructive on being underweight the dollar, which was consistent with our positioning throughout 2020, which actually paid off, other than a very tough first quarter when we had that dollar liquidity squeeze in March of 2020, and then you had the Federal Reserve come to the rescue with a number of packages that alleviated the liquidity squeeze.

And then since then, the dollar spent the rest of 2020 in a nice descent, and it really made sense to own a diversified basket of both developed and emerging market currencies, which is what we did.

We come into 2021 really carrying that view forward. The dollar continues to be an overvalued currency. It’s about 15% rich on our PPP model, and plus we have a number of fundamental factors that play in the U.S. that we think could send the dollar weaker.

If you think about the size of the Covid relief packages in the U.S., there are about 25% of GDP between the packages from last year and the $1.9 trillion that President Biden just got passed very recently. So, we think that’s going to start pressuring the dollar lower.

If you think about the dollar from a sort of traditional twin deficit point of view. So, the budget deficit combined with the current account deficit — that’s about 19% of GDP right now. It’s never been higher. And then you couple that with the fact that the policy framework we believe coming from the Biden administration is likely to be less growth friendly, higher taxes, higher regulation. And we think all of those factors could pressure the U.S. dollar lower.

It looks a little bit like 2018, where you did have growth leadership from the U.S., and we could get some of that here in 2021 as well. And that was a year where the dollar went up. But the key difference this time around is the Fed is very clearly on hold, and they’re not hiking rates every quarter, and they’re not tightening the balance sheet like they were in 2018. So, while you could get a growth differential story between the U.S. and the rest of the world, we just don’t see that playing out with the same level of rate support that the dollar got in 2018. So, we’re sticking with the weaker dollar view.

And yes, there’s lots of stimulus money being printed in the U.S. But what we’re seeing is that it’s starting to leak out of the U.S. In other words, imports are surging as consumers are spending again, but those dollars are going overseas and putting more pressure on the current account and the trade balance has widened. The current account deficit is actually the widest it’s been now in eight years.

So, between valuation and those fundamental factors, we think that the dollar could be a weaker currency.

We actually like cyclical commodity currencies, both developed and emerging. So, we like the Canadian dollar right now. We like the Norwegian krone. We liked ariary until fairly recently, and we’ve now pivoted that exposure into Canada.

But from the emerging markets point of view, we remain very constructive. Not many asset classes still remain cheap in this world we’re in today. But EM F/X is one of those asset classes that actually does remain pretty discounted on a real effective exchange rate basis.

And we like currencies like the Mexican peso, the Chilean peso, the Polish zloty, Korean won, Colombian peso, Malaysian ringgit, Brazilian real, Russian ruble, Czech koruna, Hungarian forint and the Indonesian rupiah. So, we think we’re pretty well diversified by region, and also by type of economic exposure. Some of those are manufacturing and some of those are commodity economies.