NEW YORK (AP) The giant boost to U.S. corporate earnings that has come by way of the weak dollar could fade fast should there be even a slight slowdown in the currency's decline.
It's not that anyone is forecasting the dollar will soar, but there are some signs that a rebounding U.S. economy and higher interest rates are helping the U.S. currency break out of the slump it has been in for much of the last two years.
Investors should beware. That might mean that earnings for U.S. companies doing business abroad could turn ugly.
In recent years, the dollar tumbled against most of major currencies along with U.S. interest rates, which made assets backed by the U.S. currency less attractive to foreign investors. Since peaking in February 2002, the dollar has fallen about 11 percent against the currencies of its major trading partners, according to the data compiled by the Federal Reserve.
The currency's drop has mostly helped companies doing business overseas that eventually must repatriate their foreign earnings when calculating profits. So when foreign currencies are strong, the profits collected abroad count for more than they otherwise would.
For instance, currency benefits added three percentage points to technology giant IBM's 7 percent gain in revenues during the second quarter. At fast-food chain McDonald's Corp., positive foreign-exchange translation boosted revenues by three percentage points to 10 percent, while operating income rose by 17 percent thanks to a four percentage point lift from the weak dollar.
Who knows if a significant change in dollar trading will happen tomorrow, next week or even by the end of the year. But the twists and turns in the currency are crucial to watch when analyzing potential earnings growth.
That's because some estimates put as much as half of the recent profits of companies with large overseas exposure that are in the Standard & Poor's 500 index in the hands of the declining dollar no small change.
Consider that impact when looking at statistics that show earnings for S&P 500 companies rose 25 percent in the second quarter. It is only the second time in the last 25 years that there has been growth of 20 percent or more in four consecutive quarters, according to earnings-tracker Thomson First Call.
But those gains may not be maintained if the dollar changes its course.
Currencies of U.S. trading partners rose more than 7 percent against the dollar in the first quarter compared with a year ago, but that gain narrowed to just around 4 percent for the April through June period, according to the Federal Reserve.
Should that strengthening of the dollar accelerate, it could be a potential wrecking ball for profits.
Just look at what happened at Oreo cookie maker Kraft Foods Inc. In the first quarter of this year, currency benefits contributed four percentage points to its 4.5 percent rise in revenues, while it added 1 cent to its 14 cents in earnings per share. By the second quarter, foreign-exchange translations only contributed three percentage points to its 4.6 percent sales gain.
Coca-Cola Co. said that 6 percentage points of its 22 percent rise in operating income came from currency benefits, and that rose to 9 percentage points of its 17 percent gain on a year-to-date basis. But Coke chief financial officer Gary Fayard, in a conference call with analysts last month, acknowledged that the company expects its currency benefits to be ''substantially'' less in the second half of the year.
And for technology firms, the changing dollar outlook could hit them at the worst time. With capital spending not yet ramping up as had been expected at this point in the economic recovery, it could be a double hit to profits should the dollar rise, too.
The next step for the dollar may largely track that of the U.S. economy, and how the recovery fares in the face of such factors as rising oil prices and lackluster job growth.
Should growth remain solid and the Fed not only continues its policy of raising interest rates but does it at a faster pace than most foreign central banks, the dollar could strengthen. But a slower-than-expected U.S. expansion could weigh on the dollar by making U.S. assets less attractive to foreigners, and only widen the already ballooning U.S. budget and trade deficits.
Maybe the only certain fact is that the dollar matters to earnings, big time.
Rachel Beck is the national business columnist for The Associated Press. Write to her at rbeck(at)ap.org
Peninsula Clarion ©2014. All Rights Reserved.