A strong US dollar and sky-high inflation will be a strong headwind for earnings of S&P 500 companies going forward and will put a lid on the stock market’s recent rally, Morgan Stanley’s equity research chief said in a note.
The US Dollar Index is already up 16% year per year, to 108.04 as at 10:15 a.m. ET. The dollar’s relative strength against a basket of foreign currencies bodes poorly for US firms that do a significant amount of their business overseas, as other countries shy away from more expensive US products.
“This could not be coming at a worse time as companies are already struggling with margin pressure from cost inflation,higher/unwanted inventories,and slower demand,” Morgan Stanley’s Mike Wilson wrote.
The jump in the dollar versus other currencies is “about as extreme as it gets,” Morgan Stanley said, adding that a 16% rise in the greenback implies a fall of about 8% in earnings per share of S&P 500 companies. That will pile onto already diminished demand from domestic consumers who are adjusting their spending habits to deal with the highest inflation in over 40 years.
“The dollar strength is just another reason to think earnings revisions are coming down over the next few earning seasons,” the bank said. “The recent rally in stocks is likely to fizzle out before too long.”
The dollar is also expected to keep gaining strength, at least until the Federal Reserve makes a dovish policy pivot, which appears unlikely in the near term. The US central bank has been hiking up interest rates since March to bring down prices, and are likely to raise them another 50-75 basis points at their next meeting at the end of this month.
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