By Candice Zachariahs
Aug. 24 (Bloomberg) -- Currency traders who’ve made Australia’s dollar the third-best performer in the world this year say the rally may be over.
The Aussie is little changed this month after rising 19 percent through July as China, the nation’s largest trading partner, slowed spending that spurred gains in commodities and bets Australia would be among the first to raise interest rates. Options show traders are the most bearish since Feb. 17, when the currency was in the midst of a two-month, 13 percent slide.
“We find it difficult to see the Aussie dollar going up,” said Anthony Michael, the Singapore-based head of fixed income at Aberdeen Asset Management Asia Ltd. Aberdeen manages $167 billion globally. “We’re pretty much sitting on our hands at current levels” and would only be interested in buying the currency “at lower levels around 80 cents,” he said. It traded at 83.93 U.S. cents as of 12:49 p.m. in Sydney.
Growing bearishness contrasts with optimism in the second quarter, when traders and investors piled into the Australian dollar on speculation spending on raw materials would increase as central banks printed unprecedented amounts of cash to rescue their economies. Australia relies on exports of iron ore, coal and other products for 21 percent of gross domestic product.
China Stocks Drop
The Australian dollar’s 29 percent gain the past six months as prices rose for raw materials trailed only the 33 percent rally by New Zealand’s currency and the 30 percent appreciation of Brazil’s real among the 16 most-traded currencies tracked by Bloomberg.
Now, a 14 percent drop in China’s Shanghai Composite Index from this year’s high on Aug. 4 shows the Australian currency may be hard pressed to extend its longest monthly winning streak in 20 years. The index gained 87 percent through July, bolstering the Aussie.
The Australian dollar climbed for a fifth day, adding 0.6 percent to 84.01 U.S. cents as of 10:48 a.m. in London, for its longest run of gains since June. The Standard & Poor’s 500 Index rose on Aug. 21 to its highest level since October following a report showing that sales of existing U.S. homes increased to the most in almost two years.
“Prospects for a return to growth in the near term appear good,” while “critical challenges remain,” including possible further losses for financial firms, Federal Reserve Chairman Ben S. Bernanke said Aug. 21 at a symposium in Jackson Hole, Wyoming.
Bearish Options
Options to sell the Australian dollar in the next month cost 2.32 percentage points more than contracts to buy the currency on Aug. 18, a day after the Shanghai Composite dropped by the most in nine months. That’s the biggest premium on puts since Feb. 17, reversing the 0.445 percentage point extra that traders were willing to pay for the right to buy the Aussie in March, when it gained 8 percent.
“The Australian dollar has run very hard with the share market and is showing some potential for a correction,” said Shane Oliver, head of investment strategy at AMP Capital Investors in Sydney. The nation’s biggest provider of pension plans cut its “overweight” position in the currency by about 75 percent, selling it at prices between 83 and 84 U.S. cents.
Cutting Estimates
The median forecast of 38 analysts polled by Bloomberg News is for Australia’s dollar to end the third quarter at 81 cents and trade at the same level by the end of 2009. The year-end forecast fell last week from 82 cents, the first decline in more than a month, according to Bloomberg data.
“We have increased our exposure to the yen as a hedge since risk aversion might be creeping back into the market,” Oliver said. AMP still expects the Australian currency to test parity against the U.S. dollar next year.
Investors betting on a reversal will be disappointed as Australia’s dollar climbs “well into the 90s” over the next six months, said Stephen Miller, a managing director in Sydney at BlackRock Inc. The firm oversees $1.4 trillion.
“In the immediate term, it looks as though we’re going to be an ongoing beneficiary of stronger demand in China,” Miller said. “We are long carry currencies as a theme and those positions are more focused in the Aussie dollar than anything else.”
Carry trades use funds in countries with lower borrowing costs such as in the U.S. and Japan to invest in those with higher rates, allowing investors to pocket the difference. Speculators fled the strategy last year as central banks cut rates to revive growth, narrowing spreads, and currency swings raised the risk that any gains will be erased.
Relative Yields
Australia’s A$1 trillion ($838 million) economy unexpectedly expanded in the first quarter, skirting recession as China bought 47 percent more from the South Pacific nation in the six months ended June 30 than in the same period of 2008. The world’s largest consumer of iron ore bought a record 131 million metric tons from Australia, its biggest shipper.
Even at a half-century low of 3 percent, Australia’s benchmark interest rate is still the highest among the Group of 10 nations.
The nation’s two-year government debt yields 3.43 percentage points more than Treasuries, 1.53 percentage points more than the average over the past 10 years as traders bet Reserve Bank of Australia Governor Glenn Stevens will take the lead in lifting rates. The interbank lending market shows an 88 percent chance that the first increase will come in November.
Bets that policy makers will raise rates over the next 12 months by the most since 1994 were trimmed last week, with traders expecting an increase of 1.59 percentage points on Aug. 21, down from as high as 1.87 percentage points on Aug. 11.
‘Too Aggressively’
“The market’s pricing in rate hikes a little too aggressively and a little too early,” said Adrian Owens, a London-based fund manager who oversees $700 million in currency and interest-rate funds at Augustus Asset Managers Ltd., which has about $7.6 billion in assets. “It is more likely to be the middle of next year before the RBA starts hiking because they’re going to want to be really sure that recovery is entrenched.”
Owens said he bought interest-rate futures on that view and is betting the Aussie will fall against Norway’s krone.
The Reserve Bank of Australia said this month its decision on when to raise borrowing costs will need to balance the risk of stoking inflation with damaging confidence and demand.
“A particular source of uncertainty was whether the recent growth in household spending was due mainly to temporary” government handouts, “in which case it would probably soon fade,” policy makers said in minutes of their Aug. 4 meeting, released Aug. 18.
Baltic Dry Index
The Baltic Dry Index, a measure of shipping costs for commodities, dropped this month to the lowest since May as Chinese demand for shipments of coal and iron ore slowed. That gauge and Australia’s dollar have moved in tandem 86 percent of the time on a weekly basis over the past 10 years, according to data compiled by Bloomberg.
“Commodity currencies are still at risk” and gains “are going to prove unsustainable,” said Ian Stannard, the London- based currency strategist at BNP Paribas SA, France’s largest bank. “We are still very much of the view that any gains” in the Aussie and New Zealand dollars “should be used to establish bearish positions,” he said.
China may seek to buy fewer raw materials from Australia and pay less for those it does purchase, threatening to crimp the South Pacific nation’s export revenue. China pledged this month to bankroll a $6 billion iron ore expansion by Fortescue Metals Group Ltd. in Australia, winning a 35 percent cut in prices paid for the steelmaking material.
‘Undermine Highs’
“China’s strategic aim to encourage as much iron ore production as possible has the ability to undermine the historical high returns that iron ore has generated,” Citigroup Inc.’s Clarke Wilkins said Aug. 17 in a report.
In November China pledged 4 trillion yuan ($585 billion) in spending on housing, highways, airports and power grids designed to steer the economy through the global financial crisis.
Some investors are concerned that much of the stimulus went straight into equities. An estimated 1.16 trillion yuan of loans were invested in the stock market in the first five months, China Business News reported on June 29, citing Wei Jianing, a deputy director at the Development and Research Center under the State Council, China’s Cabinet.
‘Effect Fading’
“China’s fiscal stimulus has peaked and its effect now seems to be fading,” Stephen Green, the Shanghai-based head of China research at Standard Chartered Bank Plc wrote in a report to clients on Aug 19. “This slowdown is not positive for asset prices generally, and may add to concerns about the second half.”
A return of risk aversion has the potential to push the Aussie to between 70 U.S. cents and 75 U.S. cents before year- end, said Mansoor Mohi-uddin, the chief currency strategist in Zurich at UBS AG, the world’s second-biggest currency trader as listed by Euromoney Institutional Investor Plc.
“China since the start of this month has indicated that government-backed projects will probably be fewer than in the first half and that the robust lending numbers are showing signs of slowing,” said Philip Wee, senior currency economist at DBS Group Holdings Ltd., Southeast Asia’s biggest regional bank, in a Bloomberg Television interview. “The market needs a stable U.S. and a growing China to take risk.”
New York-based Citigroup recommended selling the Aussie against Japan’s currency on Aug. 19 on expectations it would slide toward 70 yen. The exchange rate ended last week at 78.79 yen.
“We’ve probably built in so much positive news that the risk of disappointment is high,” said Henrik Pedersen, the London-based chief investment officer at Pareto Investment Management Ltd., which oversees $41 billion. “We’ll buy some protection through options. There’s some risk of a reversal.”
To contact the reporters on this story: Candice Zachariahs in Sydney at czachariahs2@bloomberg.net
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