Speculative positions have leveled out and slipped over the past few days, meaning a sudden fall in sentiment is far more likely at present
The Australian dollar is heavily traded by hedge funds and other short term traders. Its high yield and high credit rating make it an attractive investment, particularly for expressing a view on the direction of emerging markets and commodities. While the long term the value of any currency is driven by economic fundamentals, for periods of between 12 to 18 months, a currency can be “artificially” impacted by these speculators.
Speculators can make a meaningful difference to the short term direction of the Australian dollar. We call the balance between the long and short speculators the “net position”. When speculators are evenly balanced, i.e. where there are a similar number of speculators betting on the AUD rising as there are those betting on it falling, their collective impact on the currency is low. But when this net position shifts heavily into long or short territory, it can have a significant difference and distort the position of the AUD relative to its longer term fair value.
Large speculative positions do not cause the AUD to rise, nor does a low net position result in a fall. What can drive currency markets, however, is a sudden shift. For the Australian dollar, it is often said that it rises by the stairs and falls by the elevator. When the speculators shifted to a large net long position in April 2014, the AUD rose from 88c to 94c but couldn’t hold that level once the speculators receded. On the other hand, speculative selling tends to have a far more dramatic impact. Since the AUD started its slide from $1.10 against the USD, there have been two major selloffs. On each occasion, the net position of these speculators has shifted sharply from net long to net short in a short space of time.
Each time this has been preceded by negative sentiment about China in particular:
- At the end of the mining boom, the fundamental rationale for a high AUD disappeared, but speculative positions held the AUD artificially high. Inevitably, between late 2012 and August 2013, speculators shifted from their highest net long position to the highest net short, and the AUD fell from $1.04 to 90c. This was driven in part by the first signs of the Chinese economy weakening, when it reported its lowest economic growth in 13 years despite the government stimulus applied into the infrastructure sector. Shortly afterwards Australia experienced the sudden end of the mining investment boom.
- Then in August 2014, net long positions peaked again. The AUD was 93c at that time. Global concerns about China rose again as the Chinese government showed strong resolve to push their economy through a transition and tackle corruption. Speculators’ position fell suddenly to a large net short position by September and the Australian dollar slid, finding very short term support at 88c, again at 81c; the trend was a continuous fall until it hit a low of 68c in early 2016.
In mid February this year, the net long position rose in response to signs of an economic revival in China. The stimulus applied by the Chinese government – particularly in the form of allowing property, steel and coal industries to expand their production levels again – meant that global speculators gained confidence in the Chinese economy. By early May speculators reached net long positions not seen since mid 2013, and the Australian dollar rose more than 10% in response.
Once again this rise has been short lived: speculative positions have leveled out and slipped over the past few days. Given all the negative news about the prospects for Australian interest rates and the Chinese economy, a sudden fall in sentiment is far more likely at present. The past few years suggest that a sudden reversal in speculative positions could have a major impact on the Australian dollar. While part of that fall has been witnessed in just the last week, the return to sub 70c AUD prices is supported by both fundamental data and speculators’ data. Short term trading activity is of little interest to us, and we maintain our position that the AUD’s fair value is 65 to 70c against the USD.
For investors that agree the US dollar will appreciate versus the Australian dollar and would like to express this view, FIIG can offer the following bonds:
| Company | Maturity/
call date | Bond type | Trading margin | Yield to
maturity | Running
yield | Capital price | Face value | Capital
value |
| Bluescope Steel Finance | 15/05/2021 | Fixed | 4.33% | 5.55% | 6.24% | 104.250 | $10,000 | $10,425 |
| Virgin Australia | 15/11/2019 | Fixed | 6.40% | 7.47% | 8.24% | 103.100 | $10,000 | $10,310 |
|
FMG Resources | 01/03/2022 | Fixed
| 6.96% | 8.25% | 9.13% | 106.750 | $10,000 | $10,675 |
|
Newcrest Finance | 01/10/2022 | Fixed
| 2.84% | 4.18% | 4.19% | 100.131 | $10,000 | $10,013 |
|
Royal Bank of Canada | 27/01/2026 | Fixed
| 2.10% | 3.70% | 4.32% | 107.671 | $10,000 | $10,767 |
|
BHP Billiton Finance | 19/10/2025 | Fixed
| 4.45% | 6.02% | 6.42% | 105.150 | $200,000 | $210,300 |
|
QBE Capital Funding III | 24/05/2021 | Fixed
| 3.22% | 4.44% | 6.44% | 112.500 | $200,000 | $225,000 |
All bonds listed are in USD and wholesale only
Note: Prices accurate as of 17 May 2016 but subject to change