Australian dollar headed for “all-time lows”

See the latest Australian dollar analysis here:

Macro Morning

From CME Group senior economist Erik Norland:

The Aussie has dropped 35 per cent or so off its highs, but that doesn’t necessarily mean that it has finished dropping. “Where the currency is trading now doesn’t look particularly aberrant either up or down.

The Australian dollar could revisit it’s all-time lows…the risks are there: either its 2008 low of US60¢, or maybe even lower.

The Australian dollar correlates very highly to certain commodities, including iron ore and coal prices…both exported in great quantities to China; they are like canaries in the coal mine in terms of how the Chinese economy is doing, and we think there are a lot of reasons to be concerned about China.

As they crack down on lending it is possible that their housing and construction markets will go into reverse, which would be very, very bad news for iron ore.

I would not be surprised if iron ore retests its lows of around $US40 [a tonne], and possibly even goes through those lows. It could even break below that and hypothetically go down to $US20, which is where it was valued a long time ago. There’s a lot of potential downside there.

For most of the last decade debt levels were very, very far below those of Europe and the US, which explains why Australia did not experience a major financial crisis in 2008. Now debt levels have essentially caught up.

…I think the future of the Australian economy is to be fairly slow going with low interest rates, possibly buffered by a much, much weaker currency.

Some good stuff there. It remains the MB view that iron ore will, indeed, bottom in the $20s and the Aussie dollar crash to all-time lows. And that means a great deal of harm not just to prices but to export volumes (and therefore GDP) as the junior sector collapses and Fortescue is rationalised.

This is the key assumption behind the MB view that Australia’s terms of trade will revert to mean:

To be sure there is more to the currency than the terms of trade but it is engine number one.

The time frame is the question of course. It could be fast if China adopts the reform path. Or slower if China builds then busts. But when you consider we’re talking about 40% downside to the currency from here (if we hit 45 cents), does it really matter if it takes two or five years? If your assets are offshore, you’re talking about the difference between a forex return of roughly 19% per annum versus 7% per annum (plus what can be achieved from offshore assets) while everyone in Australia gets poorer at the same rate. It’s good stuff either way in a low yield universe.

That’s why we’re starting the MB Fund with 70% offshore equities to help you profit from a difficult environment. It launches July 1. Those pre-registered will be invited in a little earlier. Register your interest today (if you have not already):

 

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Comments

  1. If the AUD drops significantly wouldn’t it force the RBA to raise rates to fight inflation caused by the increased cost of imported goods and services?

    • Probably not.

      They want inflation. If price inflation leads to wage inflation, it will lead to real-house-price deflation.

      Some will lose their shirts, but the naive youth who’ve taken on megamortgages will be floated into solvency if they can avoid default by eating beans and rice.

      • I don’t agree myne.

        Higher wage price inflation will be capitalised into higher house prices. This is because the latter will continue to be based on capacity to pay, unless something pops the bubble first and destroys the mantra that you need to pay whatever you can for property because its price only ever goes up.

      • Yeah, but now they’ve finally got the screws on the banks – and wages lag. So people will be tight just trying to eat.

      • boomengineeringMEMBER

        Absolutely true unfortunately there is a lag which most can’t weather the storm until it passes.

      • Please explain how this wage inflation will occur if governments are cutting back? Companies are cutting/outsourcing? We have an influx of willing immigrants who will work for peanuts. Wage inflation won’t happen until something drastic is done to reduce the over supply and overseas competition for labour.

      • boomengineeringMEMBER

        David, In high inflation, wage inflation does occur but delayed as stated and is of no benefit except to monetize dept but that is usually too late to save the indebted due to the said lag.. Also the small ( depending on the amount of inflation) amount of wage inflation does not compensate for the higher inflation of goods etc. so in real terms there is still wage deflation masked by stagflation.

    • Raising rates in that scenario wouldn’t prevent the inflation that was occurring from the reduced AUD so I suspect not. It would just cause more pain.

      • Why wouldn’t it? Higher rates = higher dollar = cheaper imports … ceteris parabis

    • Further to my above point, here’s an oldie. My timing isn’t great, but I’m not convinced the overall thesis is completely wrong.

      —————–(Snip) from https://www.macrobusiness.com.au/2011/10/shall-we-pull-the-fiscal-or-monetary-lever/

      Joe bought a house in 2001 for $200k. He has been paying it off for 11 years now. He has built up substantial equity in the home – partly though repayments and partly through price increases. It was valued in 2008 at $420k.
      Joe has resisted refinancing, so he has only $100K remaining on the loan. At 7%, he pays approximately $7k per year in interest.

      Jane bought a house in 2008 for $420k. She has been paying it off for 5 years now. She has a little equity built up, but the loan is relatively fresh, so it’s not a lot. She still owes 400k. At 7%, she is paying 28k in interest per year.

      Both are in the same street. Both earn the same. Both have similar houses. But if interest rates rise, Jane is going to suffer 4x more than John.

      This puts the RBA in a very difficult position in the current global climate. They are unable to raise rates because cascading defaults will occur as the ‘Jane’s’ of the world hit their absolute financial limits. They are also unable to target the ‘Johns’ of the world to even out the load. This is why monetary policy is not only a blunt tool, but now an unprecedented uneven tool. It is diffucult to engineer a soft landing and moderate inflation with this tool.

      Outcome = stagflation?

      One possible and incrasingly worrying outcome of the current global issues is that Australia could enter a period of stagflation. With the RBA possibly unwilling to raise rates and trigger defaults, but international pressures pushing up the CPI, it is quite possible that we could be stuck with increasing prices and increasing unemployment if the global situation deteriorates.

      This could occur for a few reasons. One is simple. Our dollar is floating, and can trade rapidly up and down. The major factors that have held it high have been relatively high interest rates bringing foreign investment and speculation, and commodity prices. It is possible that our dollar will be traded even lower than it is currently (96c) due to a global rush to liquidity denominated in their own currencies. It is also possible that worldwide food prices continue to rise, and importantly, oil prices.
      We currently see an emerging and alarming disconnect between the two major oil indexes. The West Texas Intermediate which mostly supplies the US market, and the Brent Crude which is generally exported have diverged by $20 a barrel.
      This could be a critical sign for oil dependent nations like Australia. We could be facing a lower dollar and stable oil prices. This would translate to a marked increase in prices at the pump. If oil does not drop as it did last time, we could be in for a repeat of the 70’s.

      It is hard to predict, but this outcome is possible. If the RBA drops rates, our dollar drops and inflation rises.
      If it raises rates, defaults could occur.

      • boomengineeringMEMBER

        myne, the problem is exacerbated for Jane as she would in reality be paying less interest rate than Joe, which when interest rates rise the same for both would cause the percentage of rise to be higher for Jane eg 1% interest going up 1% = 100% increase but 50% going up 1% = 2%increase.

      • boomengineering I don’t get why Jane’s rate would be lower.
        It’s not like Joe couldn’t or wouldn’t have ample opportunity to have refinanced – and probably got a better rate due to equity, good history, and lower debt load.

      • boomengineeringMEMBER

        In general over the years rates have lowered so hypothetical case would be, rates for newcomers would be lower than unchanged rates for previous borrowers.which in turn would be more sensitive to rate changes. Even if previous borrowers (Joe) did change they would be in an even better situation than Jane as you alluded to.
        Jane could be paying less interest rate but not less interest due to burden of purchase price.

      • fitzroyMEMBER

        If the dollar went down wouldn’t Australian housing be cheaper for Chinese investors or residents wishing to get either themselves or their money out of China?

      • The Traveling Wilbur

        Is that the same way Holden destroyed domestic demand for Commodores?

    • Jill, this is a possibility. To give a real life example, in 2013 both Russia and Turkey were facing economic difficulties and their currencies plunged. When their currency went down 10-20% they were ok with it because hey, it’s better for exports right. But when the currency went down 20-30% and then 30-40% within a year the central banks had to act because a currency in free fall is quite a scary thing. If you were a central bank member, would you just watch the currency go down 40% and go, “Oh, it’s ok. Who cares if it falls 90%…Let’s all go out for a beer.” Both the Russian and Turkish central bank raised rates into double digits to make holding the currencies more appealing and to stem the free fall.

      The answer is it depends how quickly it happens. It the AUD fell 10% per year over the next 4 years it would pressure the RBA not to cut rates because every 5-10% cent drop is like a rate cut anyway. But it would be unlikely to make them raise rates to stop a gradual fall in the currency or to stem the moderate inflation it would likely stir.

      If however, the currency fell by 40% within a year, Ore getting slammed, China slowing substantially and Asia Pac in recessionary conditions causing a massive run from the AUD and panic resulting in a free fall of the AUD, then yes, this would make the RBA act and they would have to raise rates to stop the AUD from being in free fall. There is no point in trying to stop a recession if your currency is on the way to 0. Currency stability is the RBA’s main objective as stated on their website:
      RBA
      a. the stability of the currency of Australia;
      b. the maintenance of full employment in Australia; and
      c. the economic prosperity and welfare of the people of Australia.

      • Yes, a fall in A$ on Fx market sentiment is scary and RBA should act to fullfil its mandate (stable currency) but, as Soros taught the BoE, its the Fx market sentiment (informed by trends in the economy’s fundamentals) that set the level. If A$ falls, under current policy the only lever the RBA can pull is to raise the official inter-bank rate; alternatively, go full Banana-Republic with capital controls.

      • “go full Banana-Republic with capital controls.”

        I don’t think you understand the meaning of the term “Banana-Republic….

        Disheveled…. just saying…

  2. HadronCollision

    I remember buying my first Macbook in 2001 in LA at a 0.4 cross. That seems to be low.

    • C.M.BurnsMEMBER

      studying high school economics in the 90s during the years of the pacific peso

      good times

    • Mining BoganMEMBER

      A beer in a nudie bar in Fairbanks, Alaska cost me $20 Aussie in 2000. Didn’t mind though, ’cause the bikies who ran the place liked me and bought me a jug and sent me out back for a lapdance.

      *waves at Summer* Know you’re reading Love.

  3. We would be experiencing ‘depression like’ economic consequences in the circumstances you describe, why then would there be wage inflation?? The imported inflation will crush demand and associated jobs. Locally there will be deflation in everything not controlled by the oligopoly / cartel / 0.1 %.

    No happy ending to this fairy tale

  4. Since parity I’ve been 60% unhedged in super. Certainly turbo charged the returns. Dumped the last of the AUD funds last week and dropped it into VEU, although it’s still got 5% Australia in it.

  5. thefatgeneralMEMBER

    I recall a poll a while ago asking for which cities there would be a roadshows going around-is this still going to occur? I was interested in the fund (and also tbh to meet/talk shop with other macro bers’)

  6. Do you guys have a long-term audited track record? The obvious comparison funds for those seeking foreign exposure would be Forager or Platinum… how does your performance stack up against them?

    • Even StevenMEMBER

      Unlikely Maz. They are setting up a new fund (presumably the first fund they have ever set up). Consequently, no track record can be provided. Their ‘track record’ can be measured only to the extent that you agree or disagree with their commentary over recent years.

      The core requirement for me would be diversification. The currency / int equities exposure is a big position, but they’re doing the right thing in broadcasting it loud and clear.

      • Thanks. Yeah this is what I would have guessed, though I was wondering about the possibility that one or more of the crew run funds privately in some form which they are happy to run through an auditor. Like every other commentator (even Pascoe), MB’s opinions have been right sometimes, and wrong other times. It’s how this mix translates into returns that matters in the long run. For me, having no evidence of how MB’s blog opinions have translated into financial results is a bridge too far. I’ll be sticking with Forager.

      • Been running a pilot fund since the US election that I’ve updated folks on allocations regularly but I’m am not allowed to provide details because it does not exist as product and is therefore unaudited.

        It has done well given we went long US post-election then took profits three times in Q1 and pivoted to Europe mid-March as it took off.

        Called the top in the Aussie market too and local bonds have performed well.

        These moves are all on the record but, as said, not allowed to provide detail beyond that.

        BTW, what fees are you paying at Forager?

      • That sounds like a strange rule… not being allowed to quote what return you got on something because it’s not a “financial product”. Obviously doesn’t apply to property investors (but I wish it did because it would be nice to stop hearing all the bragging haha). Or does this rule just apply inasmuch as you’re not allowed to use those returns to market the product you’re about to release?

        The Australian Forager fund (now listed, ASX:FOR) charges 1.1% MER plus 10% of performance over and above 8%pa. The international fund (unlisted) charges a flat 1.55% MER. See https://foragerfunds.com/

        I note Platinum also reduced its fees recently. See https://www.platinum.com.au/announcements/etmf-and-fees/

    • They’ve mentioned before something along the lines of ‘an unreleased product cannot publish any results gathered prior to release’. A real shame cos we’re all curious.

  7. Currency prospects not good for anyone working in Australia whose village is being supported by their Australian dollar remittances. If they’ve got PR status, they’ll be wanting to use it to find a better situation in a country with a stronger currency and better employment prospects.

    • I believe a large number of PR’s are Australians of opportunity only and came here to capitalise on our boom, whilst their home countries endured the GFC. Now the tide is running out for Stralya many will return home or as you point out, follow stronger economic circumstances. High immigration has been a key corporate strategy to drive down wages, that combined with the ebbing economic tide means there will be no wage inflation to save us and there will be no wage inflation anytime soon. This appears to be somewhat contradictory, as jobs crater many new arrivals with high mortgages will be as stuck as we locals, those that can may choose to migrate again.

  8. If the Australian dollar drops, petrol, diesel and jet fuel prices will go up

    14/4/2017
    Australia more vulnerable than ever to fuel import disruptions
    http://crudeoilpeak.info/australia-more-vulnerable-than-ever-to-fuel-import-disruptions

    In yesterday’s 7 pm news Alan Kohler again misinformed the public about an alleged battle between US shale oil producers and OPEC, although US shale oil does not compete with much of OPEC’s oil because it is light, extra light and condensate

    29/5/2017
    Australian ABC TV selectively quotes BP to match its own “no worries” narrative
    http://crudeoilpeak.info/australian-abc-tv-selectively-quotes-bp-to-match-its-own-no-worries-narrative

    If anything, US condensate from shale oil competes with Qatar’s condensate from their gas fields, while Qatar’s crude production (without condensate) is in long term decline

    http://crudeoilpeak.info/global-peak/qatar-peak

  9. I’m always surprised that its hung on as well as it has since 2012. Its been between 73-77 for ages.

  10. bleeterMEMBER

    nonsense article…’Australia dollar headed for all time highs’ is equally applicable……its all in the tiimeframe which this article of course lacks

    • What went wrong Hugh – ??????? – how is this a bad outcome… whom is at fault… and why…. in “your” own words….

      • 8mill….

        Don’t really see the perspective e.g. what did Malcolm actually do – ?????

      • Skippy.

        Your grammar is wrong. The “who” in this case is the subject.

        Who is at fault.

        Not whom is at fault.

        I hate it when people try to sound smart just for the sake of it.

      • I like “whom” [Dr Seuss], still, that does not address the thrust of my quire.

        “Unless someone like you cares a whole awful lot, nothing is going to get better. It’s not.”

        Here’s a clever rhyme to get you motivated, realizing that things get done in the world by people who care, who try, and who give their best to what they’re doing. Look around and you’ll see that if no one cared an awful lot, not much would get done, and nothing would have ever improved. It’s easy not to care about things, because a whole lot of things need changing and it can be overwhelming. But if you focus your attention on one thing that needs improvement in your own world, you can make a measurable difference just by amping up the amount of care put towards it.

        Disheveled…. have a care melbourneguy and respond to the content….

      • Turnbull, like May, called an unnecessary election and both went from comfortable lower house majorities to uncomfortable ones. That is the evident parallel between the two.
        Fairly evident unless one has a quibbling, querulous bent.
        Whom is an object not a subject. Caring about grammar amongst many other things.

      • “Turnbull, like May, called an unnecessary election and both went from comfortable lower house majorities to uncomfortable ones. That is the evident parallel between the two.”

        “Unnecessary” post facto is a bit dubious, both had firm reasons for doing so and especially in May’s case, desperate for a mandate. I would offer had she waited longer the jazza camp would have made even more ground, the 18 to 34 age bracket percentages should send shivers down the Torries backsides.

        My first response was to Hugh, especially the torriegraph header of – Britons vote for chaos – pearl clutching. The header should actually say torries and blairites lose the plot over Corbyn’s success, against both money interests and dominate ideological paradigm.

        For that Hugh did not respond, 8mill made some lose conjector, melbguy got distracted by grammer, and now you suggest that the two incidents have common ground.

        Disheveled…. I never knew Malcolm was running against Corbyn or was faced with Breixt….. silly me….

  11. This is for Haroldus
    https://www.youtube.com/watch?v=CMThz7eQ6K0

    “We know major Tom’s a junky, strung out in heaven’s high, hitting an all time low.”

    Could of course be reworked to something like:

    “We know every Aussie is a debt junky, strung out in a negatively geared high, about to hit an all time low.”

  12. BubbleyMEMBER

    So in a nutshell, it all hinges on the iron ore price based on the chinese demand.

    Projected on the graph above is a dropping demand till 2020 and a dropping AUD till at least then.
    Possible action, sell AUD for USD if you haven’t already and hold for possibley 2 years?

    Thats what I see in my nutshell, how about you?

  13. Excellent, another boon for RE prices as we make our #1 export, prime residential RE land cheaper for our Chinese overlords. Lower teh rate and let QE rip NOW!