Biggest Investment Themes for Second Quarter

Exchange Rates

In the past couple years, countries around the world have been playing a perverse and baffling game whose goal is to allow one's currency to weaken. In a desperate drive to grab growth wherever it's available, a strong currency is a liability, since it tamps down exports. Weak currencies give countries an advantage by having relatively lower costs for exports, boosting the economy through trade.

Adding to America's export pain is the Greek debt fiasco, which has led investors to flee the European Monetary Union, cash in hand, for the safety of U.S. Treasuries. The dollar has strengthened against the euro since December, falling from about $1.50/euro to $1.35/euro. Big companies with lots of foreign-currency sales, such as GE and construction-equipment maker Caterpillar(CAT), are highly exposed to currency swings. While the companies can "hedge out" currency fluctuations between the contract initiation and the settlement, they still face large amounts of economic risk related to the dollar's power.

Look at it this way: GE and Caterpillar machinery valued at, say, $100 million has increased to $111 million for European customers since December simply because of currency changes. That's a competitive disadvantage because European counterparts like Siemens(SI) may be able to outbid the U.S. companies. Even if GE and Caterpillar accept euros to stay competitive, they'll still need to translate the money into dollars in their financial statements, so the loss will be damaging either way.

Investors should consider diversifying their money to spread currency risks. Siemens is worth considering, but if the thought of prospecting for foreign investments is daunting, there's no shame in holding an international stock-market index fund. The key to any investment strategy is to avoid placing all your eggs in one basket. Those baskets include industries and currencies. The saying is older than Warren Buffett, but it still holds true.

-- Reported by David MacDougall in Boston.

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