The Australian dollar is stuck at a 21-month low after it slipped under US72 cents on the weekend. We shouldn’t expect much of a bounce as the path of least resistance is down for the Aussie battler.
This could be a signal for large cap stocks to pull ahead of junior stocks as the S&P/ASX SMALL ORDINARIES (Index:^AXSO) (ASX:XSO) index has left the S&P/ASX 200 (Index:^AXJO) (ASX:XJO) in the dust with a gain of 18%, versus 11% for the top 200 benchmark over the past year.
But the gap has recently been closing and the currency tailwind could push the share prices of large cap stocks ahead of those at the small-end of town.
Bigger companies tend to be exporters or have large overseas operations that earn in US dollars. Blood products group CSL Limited (ASX: CSL), building materials supplier Boral Limited (ASX: BLD) and steel manufacturer BlueScope Steel Limited (ASX: BSL) are just some examples of large caps that will benefit from the weakening Aussie, which hasn’t fallen this low since the end of 2016.
There is a greater chance for our dollar to test new multi-month lows than for a sustained recovery, in my view, particularly in light of the new house price data.
The latest data from CoreLogic shows the Sydney prices are contracting at the fastest pace in nine years and Melbourne in almost six years.
This, combined with the out-of-cycle mortgage rate increases by Westpac Banking Group (ASX: WBC) and other banks, as well as the leadership debacle in Canberra, mean the Reserve Bank of Australia can sit on record low interest rate settings till 2020, if not a little longer.
The widening interest rate differential between Australia and the US is weakening the Aussie dollar but there are external factors that will also keep our currency on the back foot.
The trade war rhetoric from US President Donald Trump against a wide range of countries, including China and the European Union, is driving investors into the safety of the US dollar. The air of nervousness is unlikely to dissipate anytime soon.
Meanwhile, China’s growth is slowing and that spells more weakness for the Aussie given the positive correlation between Chinese economic expansion and our dollar. China is bracing itself for a further slowdown as Trump prepares to slap tariffs on US$200 billion worth of Chinese imports to the US.
On the flipside, there aren’t any obvious positive catalysts for the Aussie – not in the near-term anyway. If our dollar can sustain a bounce from these lows, it will need a trigger.
Experts quoted in the Australian Financial Review today are also struggling to identify a trigger for an Australian dollar bounce as the relatively strong US economy and share market have emboldened Trump who is intent on shaking-up the global economic order.
Having said that, predicting where the exchange rate will end up is a mug’s game. Just when you think things can’t be better for the US dollar, sentiment will turn.
However, I think it’s important for investors to have a meaningful weighting towards stocks with large US-dollar exposure (or international shares), if they don’t already have that.
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Motley Fool contributor Brendon Lau owns shares of BlueScope Steel Limited, Boral Limited, and Westpac Banking. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.