President Donald Trump and Federal Reserve Chair Jerome Powell are at odds on interest-rate policy. A similar tension occurred in 1987 during the Reagan administration — with dire consequences for stocks. – AFP/Getty Images
This past week has been strong for the U.S. Dollar Index DXY — its best since October 2022, in fact. It’s a far cry from the first half of this year, when the index lost almost 11% — the worst first-half return on record since the index was created in the early 1970s.
Looking back, you might think that the weak dollar was good for U.S. stocks, given the S&P 500’s SPX total return of 6.2% during this recent period of dollar decline. But the U.S. stock market has also performed spectacularly in years when the dollar was unusually strong. So maybe the dollar’s movements don’t matter to dollar-based investors.
Or just maybe, if the Federal Reserve lowers U.S. interest rates aggressively — as the Trump administration wants — and the dollar declines sharply as a result, the stock market could react adversely.
It’s happened before: in October 1987.
To gain more insight, I first measured the dollar index’s track record as both a coincident and as a leading indicator of the S&P 500’s earnings per share.
I came up mostly empty when investigating the dollar’s potential as a coincident indicator. As measured by a statistic known as r-squared, trailing-year changes in the dollar index since 1973 have been able to explain or predict just 1% of contemporaneous changes in the S&P 500’s earnings per share. A reason for this near-zero r-squared is that the relationship between trailing-year changes in the dollar and EPS has varied widely. Depending on the five-year period since 1973, the correlation between the two is as high as 0.44 or as low as minus 0.83.
What about the dollar as a leading indicator? I next looked to see if the dollar’s trailing-year rate of change is correlated with EPS’s subsequent growth rate. But I reached a similar conclusion as before. Take a look at the chart below. It plots the correlation between the dollar’s trailing 12-month change and the subsequent 12-month growth rate of the S&P 500’s EPS for each five-year period since the 1970s. Notice that the correlation is not stable.
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In the mid-1990s and again in the period leading up to the 2008 global financial crisis, the correlation was strongly positive — meaning that a stronger dollar led to faster EPS growth. In contrast, the correlation was strongly negative in the 1980s and the early aughts. Over the entire period since the early 1970s, DXY’s trailing 12-month changes were able to explain just 0.4% of the subsequent 12-month growth rates of the S&P 500’s EPS (as measured by r-squared).
In both cases, there does not appear to be a statistical basis for concluding that a falling dollar will be either good or bad for dollar-denominated investors in U.S. stocks.
But there is a non-statistical basis for concern: an ominous parallel with the financial environment that prevailed in the weeks leading up to the October 1987 stock-market crash. On that day — Black Monday — the Dow Jones Industrial Average DJIA dropped 22.6% in a single session.
Though there many factors that led to the 1987 crash, a plunging U.S. dollar at the time was a major cause. So it’s possible that in extreme situations, a falling dollar in fact should command investors’ attention.
Prior to Black Monday, the dollar index was 7% lower than at the beginning of 1987. What seemed to particularly worry investors was that the Reagan administration was actively pushing for an even lower dollar. Then-Treasury Secretary James Baker was jawboning the Federal Reserve to aggressively reduce interest rates, with the avowed intention of both boosting the economy and causing the dollar to decline even further.
Barron’s editor Randall Forsyth, in his history of the 1987 crash, writes that Baker’s comments in the week before Black Monday “were intended to push the dollar lower against the [German] mark and other currencies. A weaker dollar was preferable to higher interest rates, which Baker saw as a threat to the U.S. economic recovery, especially with the 1988 election looming. Markets responded by dumping stocks… The prospect of a currency war made risk assets, especially pricey stocks, too risky.”
Of course, the 1987 stock-market crash is just one data point, so by no means is there a guarantee that history will repeat. But history rhymes — and in this case that is a scary prospect.
Mark Hulbert is a regular contributor to MarketWatch. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at
