In recent days the Australian dollar ($A) has undertaken a marked depreciation against the US dollar ($US). It remains to be seen how far this will continue, but most commentators (including Clime) have long been suggesting that a significant adjustment is on the cards. Investors therefore should be looking for stocks leveraged to a falling $A, such as domestic retailers. The commodity price boom is over and the period of record low interest rates that has propped up the $A is coming to an end, which will see the local currency weaken.
Against the $US, the $A sits at about 17 per cent above its post-float average of around US78c. It should return to that level over the next two years as interest rates return to normal levels.
We expect the $A to have a stronger correction against the $US than the Euro, and major winners will be companies with significant US operations such as CSL, Resmed, Westfield, James Hardie and Computershare. Their US profits will be worth more when translated back to $A. European-exposed stocks such as Amcor and Ramsay Healthcare will also benefit but not to the extent of US-centric stocks.
Another sector that could gain from the $A decline are resource stocks, such as BHP Billiton, Rio Tinto and Fortescue Metals Group, which export commodities offshore.
However, other factors including the volume and price of exports affect resource stocks and investors can’t assume they will be winners if the $A falls. A falling $A could be matched by declining terms of trade from weaker commodity prices for the likes of iron ore. Resource stocks should be a net beneficiary [of a weaker $A] but you can’t predict it.
Australian retailers should also win as local consumers have less purchasing power to buy things from offshore online retailers. But retailers could also win from higher stock inflation caused by a falling $A. Twenty years ago vertically integrated retailers like Myer and David Jones used inflation to their advantage by trading stock. They would buy stock and it could revalue as they held it. The high $A hasn’t given them that chance, but it could come back.
Smart retailers could also experience a windfall from a falling $A. The likes of Harvey Norman may have hedged currency exposures to protect against a rise in whitegoods when the $A falls. They might get a windfall in currency from exchange profits, but it’s not something that will be sustained.
A weaker $A could also help import companies competing in the building materials sector. The likes of Brickworks will benefit but there aren’t many pure plays left in Australia.
Other export industries such as dairy and aquaculture will “get a bit of a kick along but nothing significant”.
At a macro level the Australian economy has become a hostage of the $A. If the $A falls, it will provide a growth and inflation stimulus to the economy which will flow through to a number of sectors and stocks. But if the $A stays strong, domestic companies are in trouble, and as predicted by senior Treasury officials, Australians will experience a sharp fall in living standards.
At 5500, the local equity market is priced for the $A to fall to around 85 cents, and a devaluation would stimulate economic growth which will flow through to earnings growth. However, if it [a falling $A] doesn’t happen we could be in for a tough period. Indeed if the currency somehow struggles back to parity against the $US then a recession becomes a higher risk. At that point there would be no doubt that the standard of living would fall across the country.
Disclosure: Clime owns shares in BHP Billiton, Brickworks and CSL.
