U.S. dollar and trends in emerging markets

Christian J. Galipeau

Christian J. Galipeau
Senior Market Strategist, 01/05/21


A look at history may reveal some trends between the U.S. dollar currency movements and the performance of emerging market equity returns relative to S&P 500 returns.

The MSCI Emerging Markets Index (MXEF) is a free-float weighted equity index that captures large- and mid-cap companies across 26 emerging market countries. The index, launched in 1986, covers approximately 85% of the free float-adjusted market capitalization in each country. In our analysis, the MSCI Emerging Markets Index serves as the proxy for emerging market equity returns.

We use the U.S. dollar versus a basket of major foreign currencies to measure the relative strength or weakness of the dollar over a sample time period.

Over the last 31 years, we observed two periods of significant U.S. dollar strength and two periods of U.S. dollar weakness. The average length of relative dollar weakness lasted 7.6 years, while the average length of relative dollar strength lasted 15.6 years. Further, we found that during periods of U.S. dollar weakness, the MSCI Emerging Markets Index outperformed the S&P 500 Index. The data also show that during periods of U.S. dollar strength, the MSCI emerging market index underperformed the S&P 500. (Exhibit 1 illustrates the inverse relationship and index performance.)

Exhibit 1: U.S. dollar strength/weakness and relative performance of the MSCI emerging market index and the S&P 500 index

Over the sample, an inverse relationship between MSCI Emerging Markets Index returns relative to S&P 500 Index returns, in U.S. dollars, emerged. In Exhibit 2, the horizontal axis shows the strength/weakness of the U.S. dollar, while the vertical axis shows the relative performance of MSCI Emerging Markets Index versus the S&P 500 using monthly data.

Exhibit 2: MSCI Emerging Markets Index returns versus S&P 500 index returns (U.S. dollars)

The final illustration, Exhibit 3, shows the performance of the MSCI Emerging Markets Index relative to the performance of the S&P 500. The blue line is the relative performance of the MSCI Emerging Markets Index versus the S&P 500. A rising blue line indicates the emerging markets are outperforming the S&P 500. The gold line is the relative performance of the U.S. dollar versus major foreign currencies. A rising gold line indicates the U.S. dollar is outperforming the major foreign currencies. When the U.S. dollar is losing value, the MSCI Emerging Markets Index outperformed the S&P 500, and vice versa.

Conclusion

We find there is an inverse relationship between the U.S. dollar and the performance of the S&P 500 Index versus the MSCI Emerging Markets Index. Historically when the dollar declines in value versus major foreign currencies, the MSCI Emerging Markets Index outperforms the S&P 500. When the U.S. dollar is appreciating versus major foreign currencies, the MSCI Emerging Markets Index has underperformed the S&P 500 index.

For Investment Professional Use Only - Not for public distribution.

For informational purposes only. Not an investment recommendation.

Past performance is no guarantee of future results.

The MSCI Emerging Markets Index (ND) is a free float-adjusted market capitalization index that is designed to measure equity market performance in the global emerging markets.

The S&P 500 Index is an unmanaged index of common stock performance.

The securities holdings of the composite may differ materially from those of the index used for comparative purposes. Indexes are unmanaged and do not incur expenses. You cannot invest directly in an index.

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