The recent AUD weakness will have some obvious implications for investors, policy makers, corporate Australia and of course holiday travellers. The fall of the Aussie dollar from just over 0.81 in January to around 0.73 currently has been primarily driven by the strength of the USD following improving economic conditions in the world’s largest economy and the subsequent market interpretation of additional and measured US Fed Funds rate hikes in the year ahead.
The lower AUD has also been a result of the lower Aussie cash rate and long bond yields vs the US. Also, bulk commodity prices such as iron ore and coking coal (our main exports) are a little lower this year. Finally, the madness coming out of Canberra last week did not help global sentiment. Global markets do not like surprises particularly from an advanced economy like Australia.
In the past the AUD has been a favourite high yielding choice for global investors. This recent long period of the relative higher rates in Australia compared to other developed economies appears to be coming to an end. The range of interest rates across various developed economies are widening with US yields well above Europe, Japan and Australia. Further, the local equity bourse consistently offers a higher dividend vs offshore equity markets. This looks set to remain.
From a monetary policy perspective, the Reserve Bank of Australia (RBA) would be pleased with a lower AUD as it effectively helps parts of the economy that have struggled in recent years. The RBA have been very pro-active, this includes various prudential regulatory changes regarding investor home lending combined with historically low cash rates. They would, however, like to see corporate Australia invest a little more for future growth. Business surveys at least are trending in the right direction. While it is an over simplification, the lower AUD will help corporate Australia become more competitive although structural reform is still required. Unfortunately, given recent events it is clear that voters in recent years are not too keen on significant reform.
The lower AUD also reinforces why investors need to have global exposure in their portfolio. From an asset allocation perspective exposure to global equities, property, bonds and infrastructure all help diversify your portfolio. They help lower the volatility of your total portfolio while meeting your expected returns. Most balanced superannuation funds have been investing this way for some time. So the recent 10% fall in the AUD has added to your total return if unhedged.
Also, the lower AUD will also help improve earnings for Australian companies that have global operations and report in AUD terms. The current reporting period highlights some of the positive earnings that result from a lower AUD. If the AUD stays around current levels (or heads lower) into 2019, one would expect upgrades to AUD reported earnings. This includes companies like CSL, ResMed, Ansell, Brambles, James Hardie, Computershare, Boral, Austal and Macquarie to name just a few.
If you have a focus on income, then one will need to blend more domestic holdings at the cost of future capital gain. For many SMSF they tend to focus on the dividend and franking, unlike global fund managers. Remember, you cannot consistently have both strong capital gains and high dividends. This is a very unreasonable expectation but there are some nice dividends on offer at current prices. Most dividend seeking equity funds tend to perform well. If yours is not I suggest a review may be required.
For those going on an overseas holiday, I trust you have pre booked your accommodation at better levels. The days of AUD parity with the USD are well behind us. Your consumption habits will naturally adjust.
CIO | Atlas Capital
Director | Salter Brothers Asset Management (SBAM)