As an investor, you have several factors to consider as you move through your investing life. Among the topics worth noting is the comeback of the Canadian dollar (CAD). After a long descent that began in 2014, the loonie staged a moderate rebound this year. Why is this important? Because fluctuations in the CAD have wide-ranging effects, including national trade, travel and consumer goods expenses, corporate profitability and investment returns. So where does the loonie go from here, and what are the implications for investors? Let's take a closer look.
First, the upside. The CAD rose more than 10% earlier this year, responding to strong first-half growth in the domestic economy and rate hikes from the Bank of Canada. A strengthening currency signals rising growth, inflation and interest rates. At the same time, the CAD remains well below 2013-'14 levels, and a lower loonie offers the benefit of making Canadian goods and services more attractive to foreign buyers.
Now, the downside. The CAD fell 27% from 2014 to early 2016 because of plunging oil prices and the corresponding contraction in Canada's economy. A weaker loonie raises some costs for domestic businesses and makes it more expensive for Canadians to purchase foreign goods and international investments.
So, what's next? While cases can be made for a stronger or weaker dollar, a range-bound loonie could present a bit of a goldilocks scenario – not too strong and not too weak. Potential implications of a loonie that trends around the current level include:
With these things in mind, we think you can focus on three areas that will help you stay on track – regardless of what the loonie is doing.
First, maintain international allocations.1 Don’t avoid U.S. investments because they may seem too expensive with a cheap loonie. Looking back over the past three years, there have been several times when the CAD was at a level close to today's value. Since those periods, U.S. stocks have provided an average return in CADs that was more than double the return of Canadian stocks.
Second, look for domestic companies with broad reach. More than 50% of revenues of TSX companies come from international markets. That means domestic corporate earnings receive a boost as those profits are converted at a lower CAD. Similarly, export activity has improved recently, as companies with export businesses benefit from lower currency.
And, third – build exposure to global asset classes. After underperforming for several years, global equities have been the strongest performers over the past year. In fact, overseas large-, mid- and small-cap equities and emerging-market equities delivered an average return in CADs that was three times that of the TSX.
We maintain our recommended overweight international allocation, as we believe global growth and more attractive valuations can support international performance.
Talk with your Edward Jones advisor today if you have questions about currency impacts or opportunities that may be right for you.
1Bloomberg, as of 8/30/2017, returns measured by the S&P/TSX Composite index and S&P 500 index since 2/1/2015, 7/1/2015 and 5/1/2016.
Past performance is not a guarantee of how the markets will perform in the future.
Equity investments carry risk, including the loss of principal. There are special risks inherent in international and emerging-market investing, including currency, withholding taxes and high levels of taxation, political, social and economic risks. The prices of small- and mid-cap stocks are generally more volatile than large-company stocks.
This information is for educational and illustrative purposes only and should not be interpreted as specific investment advice. Investors should make investment decisions based on their unique investment objectives and financial situations.
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