The US Dollar is widely seen as the world’s reserve currency. This gives the US great clout on the global stage, allowing it to borrow money more easily and impose painful financial sanctions on nations that cross its will.
However, how does the US Dollar (USD) affect British people at home, especially investors? Below, our Carlisle financial advisers explain the key dynamics for those living in the UK. We hope these insights are helpful. Please contact us for more information or to speak with a financial adviser about your portfolio:
t: 01228 210 137`
e: [email protected]
Looking beyond holidays
Most British people become aware of currency exchange rates when travelling abroad. If the British pound (GBP) is weak, it becomes more expensive to buy USD or other foreign currencies. Conversely, a strengthened GBP makes your money go further.
Exchange rates can also affect prices at home. For example, imported items on supermarket shelves are purchased by firms which need to convert GBP to foreign currencies. If GBP gets stronger, these imports become cheaper. Firms then have the option to pass down the savings to customers. However, if GBP weakens, imports become more expensive this can lead to higher food prices.
These are some of the immediate impacts of foreign exchange on a financial plan. Your monthly budget may need revision if GBP fluctuates significantly against USD, the euro, or other currencies. However, looking further into the future, exchange rates can also affect your investments. Let us look at that dynamic more closely below.
USD, economics and investing
When you build an investment portfolio, there is a strong chance of gaining exposure to the USD. In 2024, the US comprises over 60% of the global stock market. Much of the world’s technology market is concentrated in the US, including the likes of Alphabet (Google), Meta (Facebook), and Amazon.
A strengthening USD can benefit UK investors who have already invested in UK companies with significant overseas revenues. For instance, In 2022, GBP weakened relative to USD, adding around £6bn to dividends paid by UK companies. This happened because US-denominated earnings had risen in value when translated back into GBP.
This may sound counterintuitive. Shouldn’t a weakening GBP make UK investors worse off? Below, we will show how this can also be the case. However, publicly-listed British firms (and their investors) may not immediately suffer from a GBP depreciation. Indeed, 80% of FTSE 100 revenues are earned overseas, with much of it denominated in USD.
A weakening of GBP makes British exports cheaper to foreign buyers. This could lead to higher sales volumes and boost aggregate demand (i.e. economic growth) in the UK economy, resulting in positive byproducts (e.g. more jobs in export-led industries). More growth would arguably be a good thing for the UK, boosting tax revenues that could then be spent on much-needed public services like the NHS.
As stated, however, things are rarely this simple. A weakening GBP can make USD more expensive to buy. For investors building a globally diversified portfolio, this can be a disadvantage as US shares become more costly.
Currency movements can also complicate the picture of an investor’s portfolio performance. Suppose a British investor buys some US shares, converting GBP to USD in the process. The shares then rise in value. In the same timeframe, GBP strengthens relative to USD. At which point, the investor decides to cash out his shares.
Despite the rising price of his US shares, this British investor will see his returns eroded after exchange rates are taken into account. The shares rose in USD terms, releasing more USD into his investment account when they were sold. However, since GBP became more expensive to buy in USD since the original purchase of the shares, the investor has lost out. This is known as currency risk.
Accounting for exchange rates as an investor
It is important to recognise that, in today’s global investment landscape, currency exposure is almost unavoidable – whether directly or indirectly. As mentioned, even the British stock market is heavily affected by the GBP-USD exchange rate. So, concentrating your portfolio purely on the domestic landscape does not shield you from the influence of currency movements.
Rather than trying to avoid these movements in their portfolios, investors will do better to account for them and manage them prudently. A financial adviser can help you navigate this area with confidence and knowledge. For example, “currency hedging” is a useful way for investors to mitigate the adverse effects of currency fluctuations on investment performance. Here, a specific investment is hedged with a related currency investment which can offset changes to the value of GBP.
Some investors may choose to invest across various currencies and assets to dilute the impact of currency fluctuations (e.g. using multi-currency bank accounts). Regardless of the approach(es) taken by an investor, consider speaking with a financial adviser to explore your options. An experienced professional can help you engage in regular and comprehensive portfolio analysis, keeping you informed about interest rate changes, inflation, and other factors that could affect strategic decision-making.
Invitation
If you would like to discuss your financial plan and investment strategy, then we would love to hear from you. Get in touch with your Financial Planner here at Vesta Wealth in Cumbria, Teesside and across the North of England.
Reach us via:
t: 01228 210 137
e: [email protected]
This content is for information purposes only. It should not be taken as financial or investment advice. To receive personalised, regulated financial advice regarding your affairs please consult your Financial Planner here at Vesta Wealth in Cumbria, Teesside and across the North of England.