Weak US Dollar Is A Tailwind For American Investors In Foreign Markets This Year
By James Picerno | The Milwaukee Company | jpicerno@themilwaukeecompany.com
The US Dollar Index has been falling for much of 2025, providing a boost for foreign equities in US dollar terms.
A flat/weak US dollar tends to be a bullish factor for global equities ex-US, and that’s proving to be true this year.
Global equities ex-US are outperforming US stocks by a wide margin year to date.
The case for international diversification has fallen on deaf ears in recent years as US stocks powered far ahead of their offshore counterparts, but 2025’s reversal of fortunes has focused minds anew on the case for global investing.
Foreign stocks are outperforming US shares by a wide margin year to date, based on a set of ETFs. Vanguard Total Stock Market ETF (VXUS) is up 8.4% this year vs. a 0.8% decline for Vanguard Total US Stock Market ETF (VTI) through afternoon trading on Mar. 5. The turnaround is striking after two straight years of strong outperformance by the US market.
What’s the source of the rebound in foreign stocks in 2025? There are multiple factor possibilities, including a slide in the value of the US dollar relative to foreign currencies.
The currency factor is, at times, a dominant force driving results for international shares from the perspective of a US-dollar investor. As the chart below suggests, a rise in foreign shares (VXUS), priced in unhedged US currency, tends to be accompanied by a relatively weak if not falling US dollar, proxied by Invesco DB US Dollar Index Bullish Fund (UUP). A similar pattern prevails in reverse when the dollar is strong, which tends to align with weaker foreign prices.
In other words, a negative correlation for returns tends to occur between the greenback and foreign stocks, as shown in the second chart below. The negative correlation (values below zero) varies through time; periodically, there are brief spikes that drive the correlation into positive terrain (during the height of the pandemic, for instance, when stocks around the world fell sharply). But history indicates that some degree of negative correlation dominates.
That’s a reminder that asset allocation decisions with foreign stocks is, to some extent, an expression on the outlook for the dollar. For good or ill, owning foreign markets is a two-for-one deal: conventional foreign equity risk, driven by sales, profits, etc; and the ebb and flow of foreign exchange markets vis-à-vis the dollar.
To remove the forex risk factor from foreign stocks requires currency hedging, which is available in some ETFs and elsewhere. This has a certain appeal, at least for some investors, but it’s no free lunch. For starters, hedging operations are an added expense that, all else equal, generally reduces performance in some degree. To be fair, a skillful hedger can add value on an after-expense basis. But hedging adds complexity for deciding how and when to hedge, and in what degree. The easy approach is to simply hedge all the time by a set degree, but that comes with its own caveats.
Even if you hedge currency risk, it doesn’t free you from the influence of forex because it simply inverts an embedded bet on the dollar, at a price for the related trade.
Considering all these factors suggests that it’s not obvious that hedging will reliably add value in the foreign equities space.
One reason not to hedge is for diversification purposes. By exposing your foreign-equities allocation to the ebb and flow of global currency fluctuations, the portfolio is exposed to a risk factor that’s relatively limited, if not wholly missing, in a US-focused strategy, depending on the asset mix. That exposure can be a headwind, but sometimes it’s a tailwind, as this year’s market results remind.
Whether you hedge or not, the key lesson for investors allocating to foreign markets is recognizing that you’re expressing a view on the dollar, whether you hedge or not.
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