Currency Crashes and Future Stock Market Returns

A subscriber asked whether a rapid, large (20% or more) individual country currency devaluation versus the U.S. dollar indicates that the country's stock market will rise the next quarter (with country exports presumably more competitive post-devaluation). To investigate, we select five currency exchange rates versus the U.S. dollar and relate monthly and quarterly changes in these rates to next-month and next-quarter total returns in U.S. dollars on exchange-traded funds (ETF) for respective country stock markets, as follows:

1. Malaysia: Ringgit to U.S. Dollar and iShares MSCI Malaysia ETF (EWM).
2. South Korea: Won to U.S. Dollar and iShares MSCI South Korea ETF (EWY).
3. Brazil: Real to U.S. Dollar and iShares MSCI Brazil ETF (EWZ).
4. China: Yuan Renminbi to U.S. Dollar and SPDR S&P China ETF (GXC).
5. India: Rupee to U.S. Dollar and iShares India 50 ETF (INDY).

We consider both linear relationships and outlier relationships (> 20% devaluations). Using monthly and quarterly changes/dividend-adjusted returns for the selected currency/equity ETF pairs as available (all limited by ETF histories) through June 2022, we find that: