U.S. stocks might be overvalued, but they could offer more safety than foreign stocks do for now. The risk in foreign markets is in the dollar, which has been surprisingly strong in the past few months.
One dollar now buys more than 100 Japanese yen, up from about 80 yen per dollar just six months ago. A rising dollar hurts the returns of U.S. investors in foreign markets.
For example, consider a stock that was trading at 80 yen per share six months ago. That stock might now be worth 100 yen per share. After the impact of the currency is considered, the U.S. investor has broken even on the stock despite the 25 percent gain in the stock in the local currency.
The yen is down more than 20 percent in the past six months, an exceptionally large move for a currency. The average six-month change in the yen over the past 30 years has been 1.94 percent.
Therefore, this is the fastest collapse in the yen seen in the past 30 years.
The pace of the decline is likely to slow, but the Bank of Japan (BoJ) is determined to increase the money supply, and the downward trend in the yen should continue as long as the BoJ eases faster than the Federal Reserve does.
Until the yen stabilizes, investments in Japanese stocks should be through exchange-traded funds that hedge the currency risk like WisdomTree Japan Hedged Equity (DXJ).
Over the past six months, the dollar is virtually unchanged against the euro. However, economic growth in Germany is slowing. That news could prompt the European Central Bank to declare victory over the sovereign debt crisis and start easing.
New commitments to European stocks seem to be risky given questions about the currency. Positions through currency-hedged funds, like WisdomTree Europe Hedged Equity (HEDJ), seem like the best way to minimize this risk.
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