Australian dollar dragged into yield spread abyss

See the latest Australian dollar analysis here:

Macro Afternoon

The Australian dollar peak looks well and truly in:

The driver of weakness is the plunging yield spread to the USD which hit new wides across the curve last night as lousy Australian wages and confident Fed collided:

The five year spread is approaching record lows. The ten year spread is now at -9bps, its lowest since 1984:

This is a building gale directly into the Australian dollar’s face. Add that China has not even slowed yet, nor bulk commodities corrected, and the downside potential for the AUD/USD later this year is obvious.


David Llewellyn-Smith is chief strategist at the MB Fund which is currently overweight international equities that will benefit from a weaker AUD so he definitely talking his book. Fund performance is below:

January Performance

If these themes interest you then contact us below. 

The information on this blog contains general information and does not take into account your personal objectives, financial situation or needs. Past performance is not an indication of future performance. 

Houses and Holes
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  1. Yep…she gonna tank bad…and with that any hope of further rate cuts…more like hikes…govt deficit, current account?

      • Ha…you may still be right…I was studying economics late 80s early 90s so perhaps see parallels that aren’t there…we shall see

      • China slowing? They’re building a freeway to Europe. In absence of an America that makes sense, they’ll be call the shots. AUD to the moon.

    • Still going to say next rate movement will be down. We’ve become too reliant on our property market, which is already looking pretty shaky. Raising rates will rip the guts out of it, and we basically implode our whole economy.

      Forget “Houses and Holes”. How about just “Holes”?

  2. Fed will be fighting mightily to stop yields from rising too quick…….they are hoping for a work off of the debt similar to after WWII but they don’t have similar politicians to work with……..payroll withholding taxes down 6.5%, those election winning IRS tables look to be kicking in already. Real estate will struggle.

    Over the next couple of years you can lose 10-15% in bonds or 60% in shares, take your pick.

  3. As fun as it is to passively watch the AUD defy the narrowing yields and continue to soar like a house brick strapped to a lounge chair attached to weather ballons, perhaps we should arm ourselves with an air rifle and deflate a couple of those silvery bad boys.

    1. APRA direct the banks to reduce to ZERO all external funding for mortgages over existing property and new property. Only non bank lenders will be permitted to use external sources of funding and then only for new housing construction.

    2. Introduce registered ownership of govt securities and restrict the classes that can be held by foreigners.

    3. Introduce a requirement that the FIRB only approve foreign investments over $5M where the foreign buyer can demonstrate a plan to substantially expand the productive capacity of the acquired asset. Ownership to limited to 50%. If the plan is not delivered to time divestiture of the asset will be required.

    If even only one of these currency inflators is deflated and even just slightly the AUD will begin a steady reasonably controlled decline.

    Certainly more controlled than sitting back and waiting for the sun to do its magic.

    • ‘reasonably controlled decline’ FWIW I don’t think so. Anything that restricts the flow to further inebriation is going to sour the mood of the party goers very badly. You’ll get a big drop off in new talent coming in and those present will try to put their clothes back on (gather their belongings back into foreign denominated assets) and go home.
      Party might end very quickly.

    • Be great to see that happen, any of it, but I’ve got my money on them keeping the currency high until the value of our exports crumble. If they can engineer a housing catastrophe they’re perfectly capable of engineering a currency one too!

      • Given the starting point the housing monstrosity was a lot easier to create than keeping this currency aloft. That said Geordie you’re right. I’ve been on this wagon for 50 economically conscious years and the currency has defied all good economic logic through all that time. My opinion is that anyone using economic logic in the currency market will get their a…e handed to them on a plate.

  4. As I’ve said many times before the riddle here is:
    How does an emerging alternative to the USD create the necessary global liquidity in SDR’s etc, when the country runs a current account surplus?
    Logically they need to export this liquidity which must take the form of global asset purchases.
    Now what happens to our local currency (the Aussie)? think about it, if cashflow is maintained through asset purchases:
    under these assumptions: Is yield still relevant?
    I suspect the RBA has done a similar analysis and concluded that the Aussie can maintain its loose USD peg for as long as we have assets of global interest to sell. Yield won’t become relevant till the quality of our sale-able assets deteriorates.

    • Absoloodle
      We’re a very attractive destination for funds – politically stable and more than willing to sell our assets to the world until they run out. I guess a lot depends on the ongoing stability of the USD as the reserve currency.
      Just thinkin’…..Why in the modern day does the world need a reserve currency?

      Edit: pfh intends putting a kink in our reputation as a willing seller of our assets and sovereignty – THAT could have a very marked effect.

      • Why in the modern day does the world need a reserve currency?
        Good question, I suspect the answer lies in understanding what guarantees the producer needs before he willing ships goods. Under the old system you basically wanted the money upfront or you wanted it held by a trusted intermediary that’s exactly where the USD and western banking systems excelled.
        If I now know that I as a producer in China have access to the Australian courts and can expect a fair outcome if I sue for breach of contract than it’s no longer so absolutely necessary that I get the money up front. An IOU (even one in the local currency) is still something of value. This outcome would dramatically reduce the role that reserve currencies play in global trade, however it can be equally argued that global trade of the future will involve mum and pop operations selling stuff everywhere (Ebay, Alibaba, Gumtree….) and these mum and pop operations are in no position to assess the credit worthiness of a potential customer on the other side of the world, so they’ll demand payment in a third party Hard currency.

      • Yes that is a good question.

        Ultimately the purpose of a reserve currency is not really about facilitating trade but about facilitating international lending.

        If the issue was only about settling trade transactions there is little difficulty because as fisho notes, sellers will just not ship goods unless they are satisfied with the method of payment. If they want to paid in their own currency, the buyers currency or some third currency that is up to them. If the buyer cannot acquire them because too many of their fellow country folk are trying to do the same (buy lots of iphones) they just dont complete the transaction.

        A reserve currency is mostly about facilitating the extension of credit. Buyer borrows the price of the purchase.

        Or they (or their country folk) sell an asset.

        A reserve currency facilitates a trade imbalance and worst of all facilitates present day consumption with the cost passed forward to be paid in future periods.

        No surprise that lotus eating Australians and their pollies find using a reserve currency to run up the tab or sell off assets very appealing.

        None of this means that convenient methods of settling trade are not a good thing but that care must be taken to ensure that those that wish to consume pay for it and not shift the burden to future generations.

        The simplest way to do this is to regulate bleedingly obvious unproductive capital inflows.

        Like we used to do.

      • I hadn’t asked myself the question before. The Reserve currency came into being largely because the US couldn’t pay their bills!
        I think you hit the nail on the head.

  5. “Add that China has not even slowed yet”

    Why is it slowing again? Would love a response. Is it due to the credit impulse diminishing?