BlackRock Inc., the world’s biggest money manager, sees Australia’s dollar falling 10 percent as disappointing economic growth forces the central bank to cut its benchmark rate to as low as 2 percent.
The Aussie will drop toward 80 U.S. cents from 88.60 cents as of 11:30 a.m. in Sydney, said Stephen Miller, a money manager in Sydney at BlackRock, which oversees $4.1 trillion worldwide. The Reserve Bank of Australia may lower its cash target from a record-low 2.5 percent in April and cut again in August as output stalls at a below-trend pace, he said.
BlackRock joins Pacific Investment Management Co. in predicting a weaker currency and sluggish growth for Australia as the economy struggles to adjust to a drop in mining investment. Miller expects Australian bonds to fall at a slower pace than developed market peers, narrowing the spread between local and U.S. 10-year yields to less than 100 basis points. RBA Governor Glenn Stevens said this month he would rather the currency weaken toward 85 U.S. cents than have to cut rates further.
“The Aussie will go lower,” said Miller. “Once it gets to 80 cents, you start thinking the Aussie is worth a look from the long side, but I wouldn’t be trying to trade it from the long side before 80 cents.” A long position is a bet an asset is going to advance.
The Australian dollar has fallen about 15 percent this year as the RBA has cut its benchmark by 50 basis points and the U.S. central bank announced a dialing back of monetary stimulus. Australia’s central bank has implemented a total of 225 basis points of reductions since it embarked on its current cutting cycle in November 2011.
The swaps market is pricing in 10 basis points of increases over the next 12 months, according to a Credit Suisse Group AG index. Of the 30 economists surveyed by Bloomberg this month, 21 predict that the benchmark will not have shifted from 2.5 percent by the end of June.
Stevens has said he would prefer a weaker currency.
“I thought 85 U.S. cents would be closer to the mark than 95 cents,” he said in an interview published Dec. 13 in the Australian Financial Review.
The RBA has predicted that Australian growth will be 2.25 percent this year and between 2 and 3 percent in 2014 as a decline in mining investment takes its toll. The economy will expand by 2.75 percent next year, according to economist forecasts compiled by Bloomberg.
For Miller, a fair value for the Australian dollar is lower than 85 cents because he is “less sanguine” on the economy than the RBA.
“If we get the adjustment in the currency that we’re looking for, that will help, but we’re going to face challenged growth conditions,” he said. “If things unfold the way I think they will, not the way the RBA thinks they will,” policy makers may decide to lower rates further, he said.
Within the Australian bond market, BlackRock favors notes issued by state governments, also known as semi-government debt.
“I like semis because I can get a pick-up in yield without giving up too much in credit quality,” he said. “I’m not looking for spread compression, I’m getting the carry.”
Provincial notes offered an average of 40 basis points more than federal securities on Dec. 27 having narrowed from 68 at the end of 2012, according to Bank of America Merrill Lynch indexes. Miller expects that, with offshore ownership of Australian Commonwealth government bonds at about 70 percent, foreign central banks will start to look more at owning state debt.
The Australian 10-year government bond yielded 4.28 percent today, up from 3.27 percent at the end of 2012. The equivalent U.S. rate has climbed 124 basis points to 3 percent.
“Our rates will go up because global developed bond yields will drag them up, but by less than they will elsewhere because there’s every prospect that our policy rate could fall 25 to 50 basis points,” said Miller.
Miller predicts that the extra yield Australian 10-year bonds offer over the U.S. will narrow to less than 100 basis points from 128. The yield premium that 10-year New Zealand (GNZGB10) bonds offer over Aussie notes could blow out to 75 basis points from 45, he said.
“We’ve got a year of sub-trend growth ahead of us and if we’re going to be surprised it’s on the negative side,” according to Miller. “It’s going to be pretty tough.”
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