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Aussie Apes Franc With 16-Year Low Volatility: Australia Credit

Aussie Apes Franc With 16-Year Low Volatility
“My base case is that the Aussie dollar stays relatively resilient,” said Gerard Minack, Sydney-based global strategist at Morgan Stanley, who likened the currency to the Swiss franc in an August report. Photographer: Brendon Thorne/Bloomberg

Buying of Australian dollar debt by central banks helped cut expectations for swings by the most among developed currencies this year, cementing a role that led Morgan Stanley to dub it the South Pacific Swiss franc.

Implied one-month volatility on the so-called Aussie, a measure used to price options, fell to a 16-year low of 5.63 percent last week, data compiled by Bloomberg show. It has plunged 8.6 percentage points this year, almost twice the 4.8 point slide in the JPMorgan Group of Seven Volatility Index.

“My base case is that the Aussie dollar stays relatively resilient,” said Gerard Minack, Sydney-based global strategist at Morgan Stanley, who likened the currency to the franc in an August report. “Australia continues to offer very high yields. It remains among a very select group of super AAA countries,” he said, referring to the seven nations with top rankings and stable outlooks from the three main ratings companies.

Australian government 10-year bonds are gaining for a third-straight year as the highest-yielding AAA rated notes lure investors from the Bundesbank to Pacific Investment Management Co., manager of the world’s biggest bond fund. Central banks and sovereign wealth funds quadrupled holdings of Australian government debt in the four years through 2011 to 29 percent of the market, the highest proportion for any developed currency, International Monetary Fund data show.

Stable Investments

The stability of such investments prompted International Monetary Fund researchers to conclude Australia’s government bond market sits beside Switzerland as one of the world’s havens, with the two having the smallest chances of sudden investor outflows among 24 advanced countries.

Germany, Kazakhstan and Brazil are among 15 nations that hold the Australian currency, according to a Reserve Bank of Australia spreadsheet created in July and other papers released in September under a Freedom of Information Act request by Bloomberg News. The central banks of Thailand and the Philippines have since said they hold Australian dollars in their reserves.

Higher Yields

Australia’s 10-year government bond yield closed at 3.38 percent on Dec. 14, offering 191 basis points more than the average for top-rated peers. The Australian rate has declined by 227 basis points since the end of 2009.

The cost to insure Australian notes through credit-default swaps has dropped 43 basis points this year to 40 basis points on Dec. 13, according to data from CMA.

Indexes compiled by Bloomberg and the European Federation of Financial Analysts Societies show the South Pacific nation’s sovereign securities due in a year or longer returned 5.5 percent this year, followed by a 3.6 percent advance for Danish bonds, the highest gains among six countries in the measure that belong to the AAA club. The gauges don’t track Singaporean debt.

Implied one-month volatility in the Aussie was at 6.14 percent as of 1:10 p.m. in Sydney, up 51 basis points from the level reached Dec. 13 that was the least since Dec. 2, 1996.

Less Swings

Lower expectations for price swings in the Australian dollar suggest it may be shielded from declines even as the Reserve Bank cut rates this month to a half-century low of 3 percent, completing the most aggressive reductions in the developed world this year.

Interest-rate swaps data compiled by Bloomberg show traders see an 88 percent chance officials will lower the cash rate to a record 2.75 percent by June to bolster growth as the peak in mining investment approaches.

Reports in the past month showed third-quarter gains in gross domestic product were the smallest this year, while consumer confidence slumped the most in nine months.

Australia’s expansion will slow to 3 percent in 2013 from 3.7 percent this year, the Organization for Economic Cooperation and Development said in a survey last week. The RBA may need to cut its benchmark interest rate further as the local dollar’s resilience impedes economic growth, according to the OECD.

The South Pacific currency climbed 3.3 percent this year to $1.0544 in Sydney today and closed above parity with the U.S. dollar on all but 23 days in 2012. It touched a record $1.1081 in July 2011.

Haven Bids

Foreign central banks and official funds quadrupled their holdings of debt issued by Australian governments to A$140 billion at the start of this year, from A$35 billion at the end of 2007, according to a report written by Serkan Arslanalp and Takahiro Tsuda and published this month by the IMF.

The fund said last month the relatively high number of central banks buying the Aussie indicates it should be added to a category that includes the U.S. dollar and Japanese yen.

“The IMF’s effective stamp of approval suggests that reserves demand for the Australian dollar will remain firm as central banks look to diversify away from the U.S. dollar and euro,” Mitul Kotecha, Hong Kong based head of currency strategy at Credit Agricole CIB, wrote in an e-mail on Dec. 11.

Credit Agricole, the top Aussie forecaster in the six quarters through Sept. 30 according to Bloomberg Rankings, sees the currency at $1.04 at end-2013. It will probably finish next year at $1.03, according to the median estimate of analysts surveyed by Bloomberg News. The euro will slide from $1.3158 today to $1.28 by Dec. 31, 2013, while the Dollar Index will be little changed at 79.7, separate polls show.

Buoyant Aussie

“The Aussie has been remarkably buoyant and has yet to approach $0.90 as some people were forecasting,” said Erik Wytenus, Hong Kong-based head of foreign exchange and commodities at J.P. Morgan Private Bank in Asia. “It’s the only AAA left with attractive yields and once clients buy the currency, there are plenty of investment options.”

Apart from sovereign debt, currency buyers may also find company bonds and state government securities attractive. The average yield for corporate notes in the local currency fell 172 basis points, or 1.72 percentage points, this year to 4.43 percent on Dec. 14 and touched a record-low 4.31 percent last month, according to Bank of America Merrill Lynch data.

Securities issued by Australia’s six states and two territories had an average yield of 3.72 percent, down from 4.47 percent on Dec. 31, compared with U.S. municipal debt’s 3.22 percent and a rate of 2.54 percent for notes by Canada’s provincial governments.

Rate Cuts

Even after 1.75 percentage points in rate cuts over the past 14 months, Australia’s benchmark borrowing cost is still the highest among advanced economies and compares with a record-low 0.75 percent in the euro area and near-zero rates in the U.S. and Japan.

Federal Reserve officials said last week interest rates in the world’s biggest economy will stay low “at least as long” as the unemployment rate remains above 6.5 percent and if inflation is projected to be no more than 2.5 percent in one or two years in the future. The U.S. central bank also expanded its asset purchases, which tend to debase the currency.

Should the U.S. currency environment remain weak, the greenback may exert an “overpowering influence” on any movement against its Australian counterpart, according to Ray Attrill, the Sydney-based global co-head of currency strategy at National Australia Bank Ltd. The bank is among the top five Aussie dollar forecasters in the six periods through the third quarter and sees it dropping to 99 U.S. cents by the end of next year.

“The skew of risks around our forecasts is very much to the upside,” Attrill said. “It’s not inconceivable that we go back to the highs of 2011.”

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