Currency and interest rates are currently playing a large role in the world economy, which should be no surprise because we are covering new ground in terms of record low rates and subsequent currency fluctuations. At present, 40 per cent of the developed world’s interest rates are negative. By contrast, Australia has one of the highest official cash rates. The consequence of this is the risk that the Australian dollar remains disproportionately strong compared to other developed countries’ currencies and damages our competitiveness. A fall in interest rates would put downward pressure on the Australian dollar, which in turn would improve export competitiveness, curb imports and ultimately balance Australia’s budgets again. The Australian dollar has already fallen from around US$1.10 to US$0.75, a fall of around 32 per cent since the Australian dollar reached its most recent high. A further fall of around 32 per cent would take it to historical lows of US$0.50. We believe this would require interest rates falling significantly from the current 1.75 per cent, or the Australian current account deficit growing significantly.
This scenario is not the current one being painted by economists and business commentators. A more measured scenario is predicted where the Australian dollar is benign, or falling more gradually. In our view, this is a more likely outcome.
The investment implications of this are that we need to look for domestic stocks that benefit from falling interest rates, a gradually falling Australian dollar and beyond these two conditions, stocks that can display more than one string to their bow in terms of the likely earnings outcome over a period where interest rates and the Australian dollar fall.
Some examples of stocks that fit this category are Macquarie Group Limited, Henderson Group Limited, Select Harvests Pty Ltd and selective resource stocks, in particular gold stocks, and as a consequence, mining services providers such as Monadelphous Group Ltd.
Here is a brief synopsis on how these benefit when interest rates and the Australian dollar are falling and what could make them special: (VIEW LINK)