Lucky Country Is Getting Left Behind With Aussie Markets Lagging

  • Altius says there’s no substance holding up Aussie dollar
  • Morgan Stanley sees Australia decoupling from global growth

Why We May See the End of Australia's Recession-Free Run

Pressure is building for the lucky country.

Australia’s dollar is the worst-performing major developed currency in the past three months and the country’s equity market is among the world’s weakest this year. As key export iron ore tumbles at the fastest pace since 2008, swaps traders have switched from betting the Reserve Bank will raise interest rates by year’s end to pricing in about a one in five chance for a cut.

Sure, the world’s 13th-largest economy hasn’t had a recession since 1991. But with interest rates forecast to climb across much of the globe, the prospects for a rate reduction Down Under have fueled the strongest bond gains among the world’s biggest government debt markets. Flagging consumer demand is denting retail stocks and weaker iron ore prices may complicate the government’s efforts to boost infrastructure spending.

“Australia is desynchronizing from the global growth uplift,” said Daniel Blake, Sydney-based strategist at Morgan Stanley.

Here are charts showing the key factors weighing on Australia’s assets.

Equities are lagging behind the rest of the world. The ratio between the S&P/ASX 200 Index and the S&P 500 Index dropped to the lowest since the start of this century. The Australia benchmark is flat this year, compared with a 7.9 percent gain for the U.S. equities measure. Only shares in Israel have performed worse than Australia among developed markets this year.

The outlook for the Aussie dollar is worsening and economists are dialing back expectations for growth. Chances are now skewed toward a rate cut, just five months into a year that began with traders inclined to bet on an increase.

The rally in Australian sovereign debt sent 10-year yields down by 31 basis points over the past three months, the steepest drop among government bond markets of $500 billion or more. That’s weighing on the Aussie as the 10-year yield premium the South Pacific nation’s notes offer over similar-dated Treasuries shrank last week to just 16 basis points, near the lowest since 2001. And back then, the currency crashed to an unprecedented 47.76 U.S. cents.

As consumer sentiment wanes, equities exposed to the sector are getting punished with the purveyors of everything from TVs to home-improvement goods and flights all taking it on the nose.

Short sellers are doubling down on JB Hi-Fi Ltd., a music and electronics goods retailer. Bearish bets have surged tenfold to the highest level since the start of last year. They now stand at about 10 percent of its shares outstanding.

And then there’s China, Australia’s biggest trading partner and the key consumer for iron ore, the South Pacific nation’s largest export. Data this week is forecast to signal Chinese manufacturing weakened for a second month. Optimism that the economy is regaining momentum has faltered as the government moves to curb leverage and Moody’s Investors Service cut its rating on China’s debt for the first time since 1989. Iron ore prices have displayed a similar trajectory, tumbling from a 2 1/2-year high of $95 per metric ton reached in February. Prices are down 36 percent since Feb. 28, set for the steepest three-month drop since a 58 percent collapse through November 2008.

For all this, the Aussie dollar remains above 74 U.S. cents. Money managers at BlackRock Inc. and AMP Capital Investors Ltd. agree it should be trading closer to 70 cents, but that’s still significantly higher than when the gap in Australian and U.S. bond yields was last this tight, back in 2001.

For Altius Asset Management’s Bill Bovingdon, it reminds him of the cartoon duo Wile E. Coyote and the Road Runner. The Aussie dollar hasn’t yet realized there is no substance holding it up, says the 33-year veteran of fixed-income money management.

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