The dollar is poised to keep climbing… tariffs are back in the news… insurance rates skyrocket… the growing problem of “social inflation”

Today, let’s bounce around to several stories likely impacting your portfolio.

To begin, get ready for an even stronger dollar.

Why the greenback is poised to continue marching higher, and what that means for your stocks

As we’ve been covering here in the Digest, the U.S. dollar has been climbing since late-December. And in recent days, that climb has turned into a vertical explosion.

To illustrate, below, we’re looking at the U.S. Dollar Index since late-December. This index is a measure of the value of the U.S. dollar relative to a basket of six major global currencies – the euro, Swiss franc, Japanese yen, Canadian dollar, British pound, and Swedish krona.

See that spike here in April?

Well, get ready for the dollar to head even higher.

To help explain why, let’s turn to legendary investor Louis Navellier. From Louis’ April issue of Accelerated Profits:

Due to rising interest rates, it will be very difficult for Fed Chair Jerome Powell to achieve a consensus for a key interest rate cut in June. Most folks now expect the first rate cut to occur in July or September.

The problem with kicking the key interest rate cut down the road is that the European Central Bank (ECB) has telegraphed that it plans to cut rates in June.

According to ECB President Christine Lagarde, a “few” folks on the ECB Governing Council were ready to cut key interest rates last week.

So, a future rate cut for the ECB is definitely brewing.

Let’s make sure we’re all on the same page with this.

When a central bank cuts interest rates, it weakens the associated currency. This is because lower rates aren’t as attractive for investors looking for the highest return on their capital.

So, with fewer investors steering their money into that currency, it means weaker demand. As you’ll remember from Econ 101, weaker demand results in lower prices, all other things equal.

If the ECB cuts its key interest rate while the Federal Reserve maintains the fed funds target rate, the U.S. interest rate will appear even more attractive for investors. This will entice some investors to shift their wealth from the euro to the dollar. And back to Econ 101, more demand for the dollar will increase the value of the dollar relative to other currencies.

So, what does a stronger dollar mean for you and your portfolio?

Let’s return to Louis:

A stronger U.S. dollar pinches profits at multinational companies and boosts the prices of commodities, like oil and gas, for virtually everyone else in the world.

When someone in, say, France buys a U.S.-based product in euros, those euros convert into fewer dollars when the U.S. business repatriates those revenues thanks to a strong dollar. Fewer dollars of revenue translate into lower earnings – bad for a stock price.

Be careful about assuming this doesn’t affect your portfolio. Roughly 40% of the S&P 500’s revenues are generated outside U.S. borders. For the tech sector, that exposure jumps to nearly 60%.

If you own lots of multinationals, keep an eye on this dynamic during earnings season.

Switching gears, tariffs are back in the news

You’ll likely recall former President Trump’s tariff war against China. The series of staggered tariffs affected roughly $370 billion worth of Chinese goods from 2018 through 2020.

During that time, Joe Biden attacked the tariff plan. Here’s Reuters from 2020:

“Damaging,” “reckless” and “disastrous” are some of the words Joe Biden has used to describe tariffs imposed by Donald Trump on allies and rivals alike.

And here’s CNBC from 2019:

Former Vice President Joe Biden knocked President Donald Trump’s trade policy Thursday even as he argued the U.S. needs to curb China’s “abusive” economic behavior.

The 2020 Democratic presidential candidate slammed Trump for tariffs on Chinese goods that sparked retaliation from Beijing and pain for American farmers. 

Well, tariffs are back in the news, this time championed by President Biden.

From CNBC yesterday:

President Joe Biden is calling on the U.S. Trade Representative to triple the China tariff rate on steel and aluminum imports as he makes the rounds in the key battleground state of Pennsylvania…

Biden’s demand to raise the current 7.5% average tariff on steel and aluminum is an effort to make clear that his administration’s recent warnings about China’s trade practices are not empty threats.

Following the breadcrumbs to investor portfolios, keep your eye on companies like Alcoa (a major aluminum player), Nucor, and Cleveland-Cliffs (leading steel producers), and on ETFs like PICK, which is the iShares Global Metals and Mining Producers ETF.

As was the case with former President Trump’s tariff strategy, President Biden is being questioned about how his suggested tariff plan might impact inflation.

Back to CNBC:

Tariffs can also have unintended economic ripple effects by raising U.S. manufacturing costs that may ultimately translate to higher consumer prices…

A senior administration official on Tuesday rejected the notion that tariff hikes would lead to higher inflation.

“If taken these actions will not increase inflation, but they will protect American jobs and steel industry,” the official said on a call with reporters. “Residual inflation is not coming from goods, these actions will not change that.”

We’ll keep you updated here, but this should be bullish for related U.S.-based commodities investments.

Speaking of inflation, there’s one area where prices have skyrocketed, but it hasn’t received as much press

Insurance.

From Reuters last week:

In one of the cruel twists of an inflation-weary U.S. economy, car prices are coming down after surging by record amounts during the COVID-19 pandemic. But at least part of those gains for consumers are getting gobbled up by rising auto insurance rates that for some models now account for more than a quarter of the total cost of owning a vehicle…

The Consumer Price Index rose 3.5% last month from a year earlier, according to the Labor Department. But auto insurance costs were up 22.2% over the same period, the biggest increase since the 1970s.

The article points toward three factors behind the surging rates:

• More cars being totaled these days,
• Quality issues related to production disruptions during the pandemic,
• And a shortage of mechanics, which means longer repair times and greater cost to insurance companies providing rental cars for policyholders.

If you own insurance companies, you’re likely up this year.

As you can see below, the iShares U.S. Insurance ETF (IAK) is still up 11% in 2024 despite rolling over at the end of March.

If you’re interested in investing in insurance companies, keep your eye on the combined ratio as you analyze prospective insurers. This measures the overall underwriting efficiency of a company.

A combined ratio of 100% means that an insurer is breaking even on its underwriting activities. Insurance companies want to be below this number – if not, they’re losing money.

Here’s an illustration from S&P Global last fall, profiling trouble at Farmers Insurance:

The net combined ratio for Farmers Insurance Group of Cos. rose to 117.4% in the second quarter, up 9.8 percentage points from the prior-year quarter.

The insurer’s net combined ratio has surpassed 100% for nine of the past 10 quarters, with the 99.8% figure during the last quarter of 2021 being the only quarter under the break-even metric of 100% since the start of 2021.

I’ll note that Farmers is owned by Zurich Insurance Group AG (ZURVY). While IAK is up 11% this year, ZURVY is down 1%.

While we’re on the topic of insurance, let’s look at one final story that’s a troubling reflection on the state of the world these days

Depending on who you ask, you’ll likely get a different answer for why insurance premiums of all kinds are rising. If you ask the insurance companies themselves, they’ll give you an answer you likely weren’t expecting…

“Social inflation.”

Here’s Bloomberg:

Industry groups say there’s been rampant abuse of the legal system, with lawyers and profit-seeking outsiders spurring a rise in increasingly costly lawsuits.

Social inflation came up on insurers’ earnings calls about 130 times in the past year—and more than 550 times from 2020 to ’23, compared with fewer than 80 in the previous four-year period. 

Leaders of giants such as American Financial Group, Hartford Financial Services Group and Travelers have all indicated that lawsuits have factored into decisions to boost rates…

What’s more, insurance industry veterans say lawyers play on juries’ emotions to win big payouts. So-called nuclear verdicts—$10 million or more—have become more frequent, the Institute for Legal Reform said in a 2022 report.

Thomson Reuters data show that the median personal-injury verdict more than tripled from 2010 to 2020, to $125,000, without including punitive damages.

Now, there’s an interesting twist that relates to investors like you and me.

These insurers are pointing the finger at none other than hedge funds and private equity groups.

Why?

Because they are increasingly providing the money for big-time lawsuits in exchange for a cut of the settlement payout.

The term for this is “litigation finance,” and it’s becoming big business.

Here’s Bloomberg Law from January:

Parabellum Capital, spun off 12 years ago from Credit Suisse, has closed on a $754 million fund that is among the largest private pools raised for litigation finance…

The new fund, which is Parabellum’s third—and biggest—shows the rising popularity of the litigation finance industry as an option for returns that are uncorrelated to equity markets…

“The asset class is moving out of infancy and moving into a state of maturity,” Howard Shams, chief executive officer and co-founder of Parabellum, said in an interview. “Serious people can recognize this as a way to make money over and over again with excellent results—private equity-like results.”

The incentive structure at work here is troubling for you and me…

Policyholders are incentivized to litigate due to the increasing likelihood of “nuclear” verdict payouts…

Lawyers are equally incentivized to take on such cases to fatten their wallets…

Now, private equity companies are incentivized to bankroll such cases to get in on the action…

And who eventually foots the bill for all this?

You and me via higher premiums (and potentially lower returns if you’re also a shareholder of a troubled insurer).

Wrapping up, from the dollar and tariffs to insurance premiums and settlement payouts, it seems like everything is trending “up.”

Eventually, the market will get the hint and fall back in line.

Have a good evening,

Jeff Remsburg