1. [051 FBA 13dec03]
MARKETWRAPBEHIND THE BIG MOVES
Wall Street
Will history
repeat itself? 52
Small Caps
Simon Gilbert seeks
new vintage 53
The Economy
Prudence required
for tax cuts 54
End of the affair: greenback gets the blues
As the world’s investors fall
rapidly out of love with the
$US and all things American,
they are rediscovering other
markets, including Australia.
But it is coming at a cost,
writes Jim Parker.
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This week the $US was
like a jilted drunk at the
office Christmas party.
No one wanted to know it.● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ● ●
IT’S OVER
$A this year
$A/$US US¢
Dec85 Dec88 Dec91 Dec94 Dec97 Dec00 Dec93
80
60
Terms of trade and $A $
Mar02Mar96Mar90Mar84
Index
95
90
85
$A losers 3-mth change
Source: Bloomberg, Reuters, NAB
-15%
-13%
-12%
-11%
-11%
7%
12%
18%
22%
31%
$A/$US
(RHS)
Terms of trade (LHS)
It was the greatest love affair
financial markets had ever seen.
And like all affairs, its demise is
generating messy and wide-
ranging consequences.
The end of the long-running
infatuation with the United States
dollar is testing the mettle of
policymakers and investors
everywhere, including those in
Australia.
A shunned greenback this week
slid to six-year lows against the
Australian dollar, three-year lows
against the yen, seven-year lows
against the Swiss franc, 11-year
lows against the British pound and
record lows against the euro.
While Australian mining
companies are being compensated
for this currency shift by higher
commodity prices, manufacturing
exporters, import-competing
industries and companies with
offshore earnings are warning
their profits will take a hit.
‘‘The US dollar is fast
approaching the point where the
squealing is going to start,’’ says
National Australia Bank currency
strategist Greg McKenna. ‘‘Another
5 or 10 per cent from here and
people are going to get antsy.’’
In an echo of what happened to
the $A during its long slide in the
late 1990s, every piece of data and
every headline is construed as
another excuse to lighten up on US
dollars. It has become virtual one-
way traffic.
By this week, the $US was like a
jilted drunk at the office
Christmas party. No one wanted to
know it. It was only intervention by
Japan, anxious about its export-
driven recovery, that stopped it
falling face down in the canapes.
So why have investors gone so
sour on the world’s reserve
currency? In a nutshell, the
returns on offer in US markets are
insufficient to attract the foreign
capital the US needs to fund its
large and growing current account
deficit.
Allied to this is the Bush
administration’s recent embrace of
a policy of benign neglect towards
the greenback as it seeks to shield
struggling US exporters and
manufacturers from foreign
imports before the presidential
election next year.
The US economy may be
booming but global investors are
asking how they can make money
out of that when the Federal
Reserve is holding interest rates
artificially low and the Dow is only
15 per cent off its record highs.
‘‘People have simply fallen out of
love with the US story,’’ McKenna
says.
‘‘At bottom, it is a story about
relative returns and it is not going
to turn around until US assets
start to outperform.’’
This is why Australia, with the
highest interest rates of top sover-
eign borrowers, has the second-
best performing currency this
year, behind South Africa’s rand.
The $A has gained more than
30 per cent against the $US. But is
also up 22 per cent against the
pound, 18 per cent against the yen
and 12 per cent against the euro.
Its trade-weighted index has
gained 22 per cent this year to
reach 15-year highs.
Reserve Bank governor Ian
Macfarlane this week played down
the influence of interest rates,
arguing the $A’s rise was mainly
due to the weaker $US, increasing
global demand, soaring
commodity prices and Australia’s
improved terms of trade. However,
market analysts have said they
believe the RBA was being
disingenuous. The $US is weak
because returns on its bond
market pale in comparison with
returns elsewhere, which in turn
reflect policy decisions. So it is a
circular argument.
‘‘Despite Macfarlane’s
protestations that it is the economy
and commodity prices – not
relative interest rates – that are
driving the $A, we see coupon as
the dominant driving force,’’
Macquarie Bank currency
strategist Joanne Masters says.
If that is the case, the $A is
going to keep going up until US
authorities start to raise interest
rates from 45-year lows. But
judging by the Fed’s pledge this
week to keep its pedal to the metal
for a while yet, that is not going to
happen any time soon.
‘‘We’re convinced that the US
dollar’s downside has much
further to run, which is an obvious
pillar of support for the Australian
dollar and one that is likely to see
it run towards US80¢ next year,’’
McKenna says.
This is what is worrying
investors in the Australian
sharemarket, where exporters and
companies with foreign earnings –
such as steelmakers, winemakers
and manufacturers – are already
complaining about the currency.
Estimates of the proportion of
local earnings sourced offshore
range from 30 per cent to 45 per
cent. So taking into account the
$A’s appreciation to date, next
year’s profits could be about
10 per cent lower than they would
otherwise have been.
‘‘My suspicion is the Australian
dollar is approaching an area
where it will start to cause a lot of
pain for exporters and import-
competing industries,’’ says AMP
Henderson’s head of investment
strategy, Shane Oliver.
‘‘The rise from below US48¢ to
US70¢ really just represented a
return to normal levels, but I
think we’ve now gone beyond
that.’’
Determining the extent of this
realignment boils down to judging
where the US dollar will bottom.
While it has already fallen 25 per
cent in trade-weighted terms,
chartists and fundamental analysts
say it could lose at least another
10 per cent from here.
Still, it’s worth noting that most
economists see the greenback’s
decline as a necessary rebalancing
in that it forces other nations,
particularly in Asia, to rely less on
exporting to the US and more on
stimulating their own economies.
This in turn helps the US to
repair its structural imbalances,
including its ballooning deficits
and record low savings rate, and
allows the world’s savings to be
more evenly distributed. This is
already happening.
But bears such as Morgan
Stanley chief global economist
Stephen Roach see an increasing
risk that the gradual decline in the
greenback becomes disorderly,
with potentially disastrous
consequences.
‘‘What matters most is the speed
by which the dollar gets from point
A to point B,’’ Roach says.
‘‘A continued soft landing is
consistent with the scenario of a
benign current account
adjustment. A rapid decline – the
so-called hard landing – in the
dollar would undoubtedly wreak
havoc on financial markets and
the world economies.’’
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Important information. East & Partners Pty Ltd. Australian Commercial Treasury Banking Markets Survey, July 2003. Commonwealth Bank of Australia ABN 48 123 123 124. GLO0017_AFRM_S_PS