You may have heard that the dollar is strong right now. But what does that actually mean? And what might it mean for those of us who invest in precious metals?
A strong dollar means that the US dollar is relatively more valuable than other currencies.
The US dollar is one of hundreds of currencies used around the globe. Examples of other currencies include the Euro and the Japanese Yen.
The relative strength or weakness of each currency is measured by comparing their value to the value of other currencies.
When the dollar is strong, that means you can buy more foreign currency for $1.
For example, look at this chart for the Euro to Dollar ratio:
One year ago, $1 would buy you €0.85. Today, it would buy you €1.02 — an increase of around 20%.
In other words, the dollar is 20% more valuable than it was a year ago, compared to the Euro.
The basic explanation boils down to this: The US dollar is seen as a safe haven, and presents a safer bet for investors than most other currencies. Increased demand for the US dollar increases it value, relative to other currencies.
The global economy is reeling from the effects of inflation and the ongoing pandemic. While the US economy is certainly in an odd place, investors are betting that the Federal Reserve’s aggressive actions to tackle inflation will pay off.
Whether this trend will continue is difficult to say. It’s notoriously difficult to predict exchange rates, and there are many factors at play in the global economy.
The strength of the US dollar has many effects on the economy, asset prices, and more. Here are some that are most relevant to our readers:
Traveling gets cheaper. The most obvious example is that traveling abroad gets cheaper. Your dollars are converted into foreign currencies, and you simply get more bang for your buck – literally!
Imports get cheaper. Items that are imported from other countries also get cheaper for US companies and consumers.
Prices of alternative assets may decline. A strong dollar can weaken the prices of certain assets, including precious metals. We’ll discuss this in more detail below.
The relationship between precious metals and the dollar is complex, but there are some common trends that are simple enough to explain.
Generally speaking, a strong dollar tends to lead to declining gold and silver prices. The main reason for this is a decrease in foreign demand.
Gold is typically priced in US dollars, and the worldwide benchmark gold price is typically also in USD. However, the vast majority of the world’s citizens don’t earn US dollars — they earn their own home country’s currency.
As such, when the value of the dollar increases, the cost of buying gold increases for foreign investors.
Consider an example for an investor who earns in Euros. One year ago, an ounce of gold cost around €1,489. Today, it costs €1,659. During this same time, the US dollar price of gold actually decreased from around $1,750 to $1,650.
In other words, for US investors, gold is around 6% cheaper than it was last year. For European investors, it costs 11% more than it did last year.
This leads to decreased demand from foreign investors, which leads to lower gold prices. In general, more demand = higher prices.
The strong dollar will continue to have ripple effects throughout the global economy. For Americans, it’s mostly good news, as it decreases the cost of imports and foreign vacations.
For precious metals investors, having a long-term investment horizon is always wise. Right now, your dollar buys more gold than it did one year ago. For the long-term investor, that’s great news!
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