Once upon a time we had to really worry about currencies when managing money. They would shoot around all over the place, undermining the best laid plans of portfolio managers.
I well recall visiting the West Coast of America in the mid-1980s when the pound nearly reached a parity with the dollar. Today, £1 will buy you more than $1.71. It is indicative of how the mighty greenback is losing popularity. Life really has changed recently.
Back when I started in the investment management business, investing abroad was fraught with complications. The purchase of foreign currency was strictly controlled. Indeed, anyone seeking to travel abroad could take only a small amount of cash.
For investors, purchases of foreign currency had to be conducted through a special market, paying what was known as a dollar premium. Initially, all this premium was forfeit on sale but the rules were loosened to allow retention of 75 per cent. Even so, moving in and out of a foreign currency would cost dear – a big disincentive for most investors.
Investment companies used to get round this problem by creating so-called back-to-back loans but these were not without risk as currency fluctuation could not be guarded against. However, one of the first acts of the Thatcher Government was to abolish the dollar premium. Today, it is almost inconceivable to imagine a world where artificial barriers existed to inhibit the free movement of capital. But with this greater freedom comes another variable for investors to build into their planning.
The slide in the American dollar has been less dramatic than the gyrations to which the pound was subject when we fell out of the exchange rate mechanism more than a decade ago but the overall effect has been significant nonetheless. The reason is not difficult to determine. America is running big deficits in both trade and for its internal budgets. These deficits need to be financed. This requires capital inflows from those prepared to fund the imbalances. But 1 per cent interest rates are hardly conducive to pouring money into the world's most powerful economy. The dollar seems to have nowhere to go but down for the present.
It is arguable that the Bush administration will not worry about this unduly. The risk of a fall in a country's currency is that inflation is rekindled. But the American economy is so self-sufficient that this appears much less of an inevitability than it would be to, say, Britain if we were to experience a sliding pound. As it happens, America would probably not mind a bit of inflation. The Federal Reserve Bank is less constrained than our own Bank of England in terms of monetary policy when it comes to looking at the rise in the cost of living.
The dollar has also passed through that magic barrier, with the euro worth $1.20. Indeed, it is the euro that has borne the brunt of the inflows of capital, putting added pressure upon eurozone economies.
At a recent currency forum in London, it was suggested that we could see the euro worth $1.40 by the end of the first quarter of 2004. That will hardly be welcome to the European Central Bank but, with the dollar experiencing downward momentum of the scale it presently does, it is hard to see the euro not rising further.
Even sterling seems set to appreciate further. Chartists are pointing to $1.80 to the pound exchange rate. All a far cry from the early 1980s. But then after the Second World War a pound was worth $4. For those ancient enough to remember, that was five shillings old money. Hence, two shillings and six pence was colloquially known as half a dollar. Sad, but true.
What should investors be doing today? The first is to remember that what you may gain in the US stockmarket, you could be handing back in currency losses.
Paradoxically, the weaker dollar will almost certainly help the US economy, just as it may also stem the rising trade deficit. The biggest problem is for those who have traditionally treated the US dollar as the world's reserve currency. Little wonder, therefore, that gold is in demand. For the rest of us in the investment world, we will just have to work that little bit harder to make money for our clients.