Earnings threat: Strong dollar
A stronger U.S. dollar may sound like a good thing, but it's providing a serious headwind to earnings. And the situation could get worse.
"We're seeing a lot of high-level names already report the effect of a strong dollar," said Kathy Lien, BK Asset Management managing director. "We've got Coca-Cola saying that, and Johnson & Johnson. IBM said revenues were down 3 percent, but would only be down 1 percent if it weren't for currency effects."
Indeed, on Coca-Cola's Tuesday's earnings call, CFO Gary Fayard noted: "On a comparable basis, the impact of currency was a 3 percent headwind on this quarter's operating income results." And Fayard foresees that headwind growing stronger. "We expect currencies to be a 4 percent headwind on our operating income for the third quarter and full year," he said.
The Dollar Index, which tracks the value of the U.S. dollar relative to a basket of other currencies, has appreciated over 4 percent this year. This poses a problem to multinational companies because it means that the foreign currency they receive is worth less when converted back into dollars. For instance, when a dollar could buy 87 yen at the beginning of the year, someone paying 100 yen for a can of Coke is effectively paying $1.15. But with the dollar/yen trading at 100, that same person is effectively paying only $1.
Lien says the problem runs even deeper. "This is not just about the U.S. dollar getting strong, but generally about interest rate volatility increasing," she said Thursday on CNBC's "Futures Now." As the dollar rises, "some companies are trying to do the right thing—they're trying to hedge. But the problem is that the hedges are becoming more expensive because of the embedded expectations for greater volatility in the foreign exchange market."
So what does it mean for investors?
"You've got to be very aware of these multinational names," Lien said. "If you're long them, consider getting out. And if you're not long, consider shorting them."