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1
Understanding
currency
behaviour during
the GFC
When you are struggling for an
answer – it is volatility.
Prepared for C...
Look at the complexity of currencies
• Currencies are relative prices
• If one is to rise, other have to fall
• US dollar ...
AUD with timeline of the GFC
0.6
0.7
0.7
0.8
0.8
0.9
0.9
1.0
1.0
Jan-07 May-07 Sep-07 Jan-08 May-08 Sep-08 Jan-09
AUD/USD
...
4
China is now seen as critical but…
Chinese demand as seen as being supportive for the AUD, but this is
not reflected in ...
Global imbalances are still there
-3
-2
-1
0
1
2
3
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014
-3
-2
...
6
Australia’s foreign debt is concentrated
with the banks
0
20
40
60
80
Mar-90 Mar-94 Mar-98 Mar-02 Mar-06
%GDP
0
20
40
60...
FX exposure & hedging by sector
0
100
200
300
400
500
600
Liabilities Assets Liabilities Assets Liabilities Assets
$Abn
No...
Australia’s external position: FX status
0
500
1000
1500
2000
Liabilities Assets
$Abn
Non-AUD unhedged
Hedged into AUD
AUD...
US dollar performance by bloc
60
70
80
90
100
110
120
130
140
Jan-08 May-08 Sep-08 Jan-09 May-09 Sep-09
indexindex
60
70
8...
Forecasters miss turning points
The market is too timid to make the big calls or pick the major
turning points even though...
Should not we call parity given the
strength in commodities?
In nominal terms, this is a commodity boom like no other sinc...
Still large in a relative sense
40
50
60
70
80
90
100
110
120
130
1950 1958 1966 1974 1982 1990 1998 2006
index
0.4
0.6
0....
Global IP growth & base metal prices
-20
-15
-10
-5
0
5
10
15
Apr-95 Apr-98 Apr-01 Apr-04 Apr-07
%6m saar
-300
-200
-100
0...
Global IP growth & the Aussie dollar
-20
-15
-10
-5
0
5
10
15
Apr-95 Apr-98 Apr-01 Apr-04 Apr-07 Apr-10
%6m saar
-80
-60
-...
Letters of credit in North Asia
-40
-20
0
20
40
Dec-88 Feb-93 Apr-97 Jun-01 Aug-05
% deviation
from trend
-40
-20
0
20
40
...
Base metals peaked long before AUD
0.6
0.7
0.7
0.8
0.8
0.9
0.9
1.0
1.0
Jan-07 May-07 Sep-07 Jan-08 May-08 Sep-08 Jan-09 Ma...
17
Factors for the Euro/USD
Euro is difficult to explain on a relative growth basis but look a little
more sensible in reg...
The asset side of the Fed’s balance
sheet
0
400
800
1200
1600
2000
2400
Jan-08 Mar-08 Jun-08 Sep-08 Dec-08 Feb-09 May-09 A...
The increase in liquidity US$ positive?
70
72
74
76
78
80
82
84
86
88
90
Jun-08 Sep-08 Dec-08 Mar-09 May-09 Aug-09
%
-20
0...
20
Market pricing for RBA compare to
Fed pricing
-500
-400
-300
-200
-100
0
100
200
300
400
Jun-04 Jun-06 Jun-08
0.60
0.70...
21
Australian dollar model
0.40
0.50
0.60
0.70
0.80
0.90
1.00
Jan-91 Jan-97 Jan-03 Jan-09
USD
Fair value band
AUD/USD actu...
22
Volatility reigns supreme for now.
• All factor at play impacting on currencies
• You can simplify by looking at summar...
23
When you have no idea, revert to the
new. “there were more buyers than
sellers” line
Alex - Feb 24, 2010
24
"The information contained in this report (the Information) is provided for, and is only to be
used by, persons in Aust...
A massive ToT shock for the AUD…
30
40
50
60
70
80
90
100
110
120
130
Jun-70 Jun-76 Jun-82 Jun-88 Jun-94 Jun-00 Jun-06
ind...
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Understanding Currency Events since the GFC

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Understanding Currency Behaviour since the GFC
- by Justin Smirk, Acting Chief Economist, St George Bank

Published in: Economy & Finance, Business
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Understanding Currency Events since the GFC

  1. 1. 1 Understanding currency behaviour during the GFC When you are struggling for an answer – it is volatility. Prepared for Currency Hedging in Turbulent Times Executive Briefing Seminar Justin Smirk, Chief Economist St. George Economics Sydney, March 26, 2010 Fast cars will go even faster with electric power From The Economist print edition, March 18th, 2010
  2. 2. Look at the complexity of currencies • Currencies are relative prices • If one is to rise, other have to fall • US dollar trends dominate… • …impacts on value of assets (such as commodities) • …but other currencies can still find their own path relative to other. • It was a banking crisis… • …and so funding issues matter for the AUD. • There is more than just China is you are looking at the AUD.
  3. 3. AUD with timeline of the GFC 0.6 0.7 0.7 0.8 0.8 0.9 0.9 1.0 1.0 Jan-07 May-07 Sep-07 Jan-08 May-08 Sep-08 Jan-09 AUD/USD 100 150 200 250 300 350index Source: St George Economics Credit crunch begins Northern Rock bailout Bear Stearns fire sale Lehman failure & AIG bailout US labour market & global trade collapses Green shoots? AUD/USD
  4. 4. 4 China is now seen as critical but… Chinese demand as seen as being supportive for the AUD, but this is not reflected in all our assets. AUD & Chinese industrial production 3 5 7 9 11 13 15 17 19 Jan-07 Oct-07 Jul-08 Apr-09 Jan-10 0.60 0.70 0.80 0.90 1.00 AUD/USD (rhs) Chinese Industrial P roduction %pa 12-month moving average (lhs) 0.6 0.7 0.8 0.9 1.0 J an-03 J an-05 J an-07 J an-09 3000 4000 5000 6000 7000 AUD vs. ASX200 AUD/USD (lhs ) ASX200 (rhs )
  5. 5. Global imbalances are still there -3 -2 -1 0 1 2 3 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 -3 -2 -1 0 1 2 3 Germany and Japan Selected Oil Exporters Selected Developing Asia United States Selected CAD Countries Rest of World Per cent Per cent Forecast Source: IMF WEO Database, Treasury.
  6. 6. 6 Australia’s foreign debt is concentrated with the banks 0 20 40 60 80 Mar-90 Mar-94 Mar-98 Mar-02 Mar-06 %GDP 0 20 40 60 80 %GDP Government Corporate Financial $A778bn $A39bn $A173bn Sources: St George Economics, ABS Foreign debt lies is largely private and mostly with the banks. It also needs to noted that mortgage are banks largest asset.
  7. 7. FX exposure & hedging by sector 0 100 200 300 400 500 600 Liabilities Assets Liabilities Assets Liabilities Assets $Abn Non-AUD unhedged Hedged into AUD Source: RBA Banks Non-financialsOther financials
  8. 8. Australia’s external position: FX status 0 500 1000 1500 2000 Liabilities Assets $Abn Non-AUD unhedged Hedged into AUD AUD denominated Source: RBA Non-AUD denominated assets far out-strip liabilities of the same. Hence a depreciation of the AUD has a positive valuation effect on Australia's international investment position.
  9. 9. US dollar performance by bloc 60 70 80 90 100 110 120 130 140 Jan-08 May-08 Sep-08 Jan-09 May-09 Sep-09 indexindex 60 70 80 90 100 110 120 130 140 Commodity exporters Japan USD broad nominal TWI Europe Flexible EM Indices based at January 2008. Blocs weighted by FX turnover. Sources: St George Economics
  10. 10. Forecasters miss turning points The market is too timid to make the big calls or pick the major turning points even though the data release may lag events.
  11. 11. Should not we call parity given the strength in commodities? In nominal terms, this is a commodity boom like no other since most of us were just wee bairns, if not just a twinkle in our Dad’s eye. 0.0 0.2 0.4 0.6 0.8 1.0 1.2 1.4 Jan-7 1 Jan -7 7 Jan -83 Jan -89 Ja n-95 Jan-0 1 Jan -0 7 A U D /U S D 0 8 0 1 60 2 40 3 20 4 00 4 80 5 60 in dex AU D/U SD (lhs) C RB ind ex (rh s) S ourc es : B lo om be rg,S t G eorg e E c on om ics
  12. 12. Still large in a relative sense 40 50 60 70 80 90 100 110 120 130 1950 1958 1966 1974 1982 1990 1998 2006 index 0.4 0.6 0.8 1 1.2 1.4 terms of trade AUD/USD (rhs) Sources: St George Economics, RBA - annual data A longer run history suggest we should breakout the balloons for a parity party – or is it something more complex, and more far more interesting evolving?
  13. 13. Global IP growth & base metal prices -20 -15 -10 -5 0 5 10 15 Apr-95 Apr-98 Apr-01 Apr-04 Apr-07 %6m saar -300 -200 -100 0 100 200 %6m saar Base metals (rhs) Global IP proxy * Sources: St George Economics, OECD, CEIC. * GDP weighted average of OECD and the BRICs. Base metals volatility was not as large as the volatility in global demand.
  14. 14. Global IP growth & the Aussie dollar -20 -15 -10 -5 0 5 10 15 Apr-95 Apr-98 Apr-01 Apr-04 Apr-07 Apr-10 %6m saar -80 -60 -40 -20 0 20 40 60 %6m saar AUD/USD Global IP proxy * Sources: St George Economics, OECD, CEIC. * GDP weighted average of OECD and the BRICs. But the AUD did respond to the demand shock despite commodities being relatively more supported.
  15. 15. Letters of credit in North Asia -40 -20 0 20 40 Dec-88 Feb-93 Apr-97 Jun-01 Aug-05 % deviation from trend -40 -20 0 20 40 % deviation from trend letters of credit, Korea and Taiwan, seasonally adjusted Source: CEIC. Trend and seasonal adjustment calculations by St George Global trade was hit not just by a demand shock but also a funding shock as letters of credit dried up.
  16. 16. Base metals peaked long before AUD 0.6 0.7 0.7 0.8 0.8 0.9 0.9 1.0 1.0 Jan-07 May-07 Sep-07 Jan-08 May-08 Sep-08 Jan-09 May-09 AUD/USD 100 150 200 250 300 350index Source: St George Economics Credit crunch begins Northern Rock bailout Bear Stearns fire sale Lehman failure & AIG bailout US labour market & global trade collapses Green shoots? Base metals AUD/USD Commodities peaked first and were the first to correct as the crisis started to unfold.
  17. 17. 17 Factors for the Euro/USD Euro is difficult to explain on a relative growth basis but look a little more sensible in regard to ToT, for now. EUR/USD vs. Eur-US annual growth differential -4 -2 0 2 4 Mar-90 Mar-94 Mar-98 Mar-02 Mar-06 Mar-10 0.80 1.00 1.20 1.40 1.60 1.80 EUR/USD(rhs) GDP Growth Differential(lhs) 0.73 0.91 1.09 1.27 1.45 1.63 Mar-90 Mar-94 Mar-98 Mar-02 Mar-06 Mar-10 -6 -3 0 3 6 8 EUR/USD (rhs) Eurozone-US Terms of Trade differential(rhs) index Euro Zone-US Termsof Trade euro
  18. 18. The asset side of the Fed’s balance sheet 0 400 800 1200 1600 2000 2400 Jan-08 Mar-08 Jun-08 Sep-08 Dec-08 Feb-09 May-09 Aug-09 USDbn Other Repos Other loans AIG Bear Stearns FX Swaps CP purchase facility Term auction facility Securities held outright US funding shifted rapidly from short-run repos to outright purchases of securities – this should have been USD negative.
  19. 19. The increase in liquidity US$ positive? 70 72 74 76 78 80 82 84 86 88 90 Jun-08 Sep-08 Dec-08 Mar-09 May-09 Aug-09 % -20 0 20 40 60 80 100 120 140 160 180 % 6 month 6 month change in Fed assets (rhs) DXY (rhs) Sources: St George Economics, Bloomberg
  20. 20. 20 Market pricing for RBA compare to Fed pricing -500 -400 -300 -200 -100 0 100 200 300 400 Jun-04 Jun-06 Jun-08 0.60 0.70 0.80 0.90 1.00 one month pricing AUD/USD prob Sources: ABS, St George Economics Jun-04 Jun-06 Jun-08 -1000 -800 -600 -400 -200 0 200 400 600 800 AUD/USD 6 month pricing prob When you look at relative interest rate expecations, the interest rate market shifted position on the RBA in 2008 before the FX market.
  21. 21. 21 Australian dollar model 0.40 0.50 0.60 0.70 0.80 0.90 1.00 Jan-91 Jan-97 Jan-03 Jan-09 USD Fair value band AUD/USD actual AUD/USD forecast Sources: St George Economics Jun-88 Jun-94 Jun-00 Jun-06 20 25 30 35 40 45 50 55 % GDP net foreign debt Linear (net foreign Sources: ABS, St George Economics AUD peaked in July 2008 in monthly averages – net debt found a low point in the September quarter of 2008
  22. 22. 22 Volatility reigns supreme for now. • All factor at play impacting on currencies • You can simplify by looking at summary variables… • …such as commodities and interest rates… • …but unless you are confident of getting all this right… • …included capital flows… • …then you can still get things wrong. • Forecasters will lag turning points. • All we can honestly say with any certainty is that when there is volatility in financial markets… • …the AUD will be even more volatile than normal due to our significant funding requirements.
  23. 23. 23 When you have no idea, revert to the new. “there were more buyers than sellers” line Alex - Feb 24, 2010
  24. 24. 24 "The information contained in this report (the Information) is provided for, and is only to be used by, persons in Australia. The information may not comply with the laws of another jurisdiction. The Information is general in nature and does not take into account the particular investment objectives or financial situation of any potential reader. It does not constitute, and should not be relied on as, financial or investment advice or recommendations (expressed or implied) and is not an invitation to take up securities or other financial products or services. No decision should be made on the basis of the Information without first seeking expert financial advice. For persons with whom St. George has a contract to supply Information, the supply of the Information is made under that contract and St. George’s agreed terms of supply apply. St. George does not represent or guarantee that the Information is accurate or free from errors or omissions and St. George disclaims any duty of care in relation to the Information and liability for any reliance on investment decisions made using the Information. The Information is subject to change. Terms, conditions and any fees apply to St. George products and details are available. St. George or its officers, agents or employees (including persons involved in preparation of the Information) may have financial interests in the markets discussed in the Information. St. George owns copyright in the Information unless otherwise indicated. The Information should not be reproduced, distributed, linked or transmitted without the written consent of St. George. " Disclaimer The previous presentation is our most likely scenario – there are, however, always more than one possible scenario.
  25. 25. A massive ToT shock for the AUD… 30 40 50 60 70 80 90 100 110 120 130 Jun-70 Jun-76 Jun-82 Jun-88 Jun-94 Jun-00 Jun-06 index 60 80 100 120 140 160 180 200 real terms of trade real trade weighted index Sources: St George Economics, RBA Does not the terms of trade, our relative income, tell us it should be a one way bet?

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