There’s talk that the high Aussie dollar might be here to stay – as far into the future as the next 10 years, some predict – which means that some listed companies will fare better while others will be hit hard.
That said, a strengthening Aussie against the greenback implies that economic growth in Australia is healthy, which is a positive for stocks across the board.
One of the major reasons for a rising Aussie dollar is that international investors such as hedge funds and investment banks are parking their money here. Our interest rates – at 3.5% and expected to rise to even further – are much higher than you can get anywhere else. Who wants to place their money in the US and earn next to nothing or Japan and receive a lousy 0.1% for your cash? Few do, and that’s why the Aussie is becoming the hot currency for yield-hungry investors worldwide.
Australia’s ongoing resources boom is also attractive for investors looking for a currency that’s going to hold up. That’s why over the short term a rising Aussie dollar can actually correspond with higher share prices. But eventually companies that derive much of their earnings from offshore – particularly the US – will find that the stronger Aussie, or weaker US dollar, will eat into profits. And this can mean sliding share prices over time.
When repatriated to Australia and reported in Australian dollar terms, a stronger Aussie dollar means receiving less for every US dollar earned.
Think of it this way. In October last year an exporter who was paid US$100,000 for their products would have banked AUD$166,666. Receiving the same US dollar cheque today means banking AUD$114,943. A rise in the AUD/USD from 0.60 to 0.88 over that period will have shaved over $50,000 from the company’s bottom line.
Roughly 30 per cent of Australian listed companies’ profit is sourced from overseas – so based on this number, a 10 per cent rise in the Aussie dollar automatically cuts earnings by about 3 per cent.
Therefore, when the Aussie dollar rises, the first word that comes to mind is resources. That’s because resources companies are our biggest exporters and derive most of their revenue from offshore.
Some resources companies will be more affected than others. Pure plays, on the whole, will be more affected than big diversified miners that earn revenue in multiple currencies.
Toll road operators, medical stgice manufacturers, healthcare and biotech stocks can earn more than 80 per cent from offshore markets. As a result these stocks are vulnerable to a stronger local currency.
By and large, the worse affected – and this goes for stocks in all sectors – are companies whose competitiveness is impacted by a strengthening currency. If a rising Aussie dollar translates into fewer contracts won offshore then the sales and cash flow of a company will suffer. Even worse is when the company also competes with imports at home, and finds that cheaper imports (a rising Aussie dollar makes imports cheaper) are slicing sales and profits at home. Take heed, as these companies can experience a severe drop in profits from a rising currency.
Companies to watch out for are manufacturers across paper and packaging, chemicals, explosives, building materials, steel – as well as timber plantation companies and insurance heavyweights.
Some questions to ask before buying a stock: how much of the company’s earnings come from offshore? Does a rising Aussie dollar negatively impact the company’s competitiveness in offshore markets? And could a stronger Aussie dollar eat into the company’s market share at home?
Some companies can cleverly avoid the perils of a strengthening Aussie dollar by hedging their exposure to it, or locking in an exchange rate to swap US dollar receipts into Aussie dollars. With this in place they continue business as normal, and as a shareholder you don’t have to worry about a rising Aussie dollar squandering profits. So check to see if the company hedges or not.
Some companies choose not to hedge for fear that the Aussie dollar may tumble rather than rise and they’ll lose out. Indeed, currency is one of the hardest instruments to forecast accurately and some companies don’t want to lock into a rate that proves unprofitable over the long run.
But not all companies lose out when the Aussie dollar rises. There are winners too, including airlines such as Qantas and Virgin, who enjoy lower costs for fuel. Importers, too, such as Harvey Norman, benefit from falling prices, with cheaper Plasma TVs, fridges and microwaves for retailers.
And for the consumer, well, it’s not all bad news. Petrol prices should come back, costs for international travel – particularly to the US and Asia – will tumble, and retailers enjoying bigger margins should be able to pass on some much-needed Christmas discounts.
Just remember that the currency is only one factor influencing share prices and shouldn’t be the sole determinant of whether you buy one stock or sell another. Also remember that the currency market is frustratingly fickle, and certainly never moves in a straight line. Even if the Aussie dollar remains strong over the coming decade there will be times when it’s sold off and tumbles back down to a low against the US dollar.
Other articles in this week’s newsletter