Predicting the fate of the Aussie dollar is something of a fool’s game these days. Whether you’re an expert or not seems to make little difference. Ask five people on where they see the dollar heading, and you’ll get five different answers.
You can make broad based assumptions about the currency, tying the fate of the dollar to commodity prices. But that’s about as ‘educated’ as your guess might get.
Truth is, there’s so much volatility across currency markets that it’s best not to assume anything. Taking on a reactionary approach might be better instead. That way, you’d play the market as it unfolds. And you avoid the pitfalls of making any long term bets.
It’s risky making long term plays in volatile currencies like the dollar. Even if it’s hard not to get caught up in the wave of bearish market sentiment.
For now, the consensus view remains that the Aussie is trending lower. Few people have conviction on how low the dollar will drop. But that’s the conclusion most people have reached.
Yet can anyone even really be sure that’s the case? Why is everyone so convinced the dollar will weaken?
If you subscribe to rumours of rising US interest rates, you’d be forgiven for thinking that. Higher US rates would strengthen the US dollar, weakening the Aussie dollar in turn.
We shouldn’t be so quick to assume that rate hikes are set in stone. The Federal Reserve has indicated on a several occasions this year that it’d be open to more ‘easing’. Even if that goes against everything the Fed’s been saying recently.
Whether that happens through negative interest rates or more QE matters less. What’s important is that we’re buying into the official line as gospel. And it’s affecting the way traders look at the Aussie dollar.
We should be careful before buying into market sentiment on the dollar. Investors, like anyone, are at the mercy of ‘expert’ opinion. This raises serious questions over going along with market sentiment.
Either way, one thing should be clear by now. Listening to so-called expert forecasts on the Aussie dollar is a recipe for disappointment.
The Australian dollar is a volatile currency. And volatile currencies imply uncertainty. Trying to measure uncertainty makes investing no better than gambling.
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The Volatile Two: Aussie dollar and yen
The Aussie and Japanese yen are two examples where experts disappoint. Not just on occasion, but time and again.
In some ways these are the odd couple in currency markets. And while volatility binds them together, it does so for entirely different reasons.
In the past decade, analysts forecasting the Aussie and yen haven’t had much luck. On average, they’ve missed the mark by an average of 12% annually. In other words, there was a 10% margin between predictions and outcomes.
These aren’t small differences. This year alone, analysts have misread the Aussie dollar by 8%. There’s far too much inconsistency with these forecasts. Why?
With the yen, the problem is twofold. Not only is it one of the lower yielding currencies around, but it attracts attention when traders become risk averse. The Aussie dollar, meanwhile, doesn’t have a yield problem. It’s one of the higher yielding currencies. But, like the yen, it’s also at risk of volatility. Investors tend to run away from the Aussie dollar when instability grows.
So these currencies are at the opposite ends of the volatility spectrum. But that’s also what makes them harder to predict.
Knowing this, why do we believe experts so often? We’d be just as likely to make the right call by listening to our gut instinct instead.
Rising Aussie dollar?
As mentioned, the consensus view remains of a weaker Aussie dollar in 2016. Some experts reckon the dollar will shed 10% next year. Marco Currency Group even predicts a floor of US$0.58.
But what, if any, possibilities are there for gains instead? It’s an unpopular opinion, but one that doesn’t look as farfetched as you might think. Provided of course you know what signals to look out for in the market.
The Aussie dollar could gain on the greenback in 2016. It may sound stupid or irrational saying that today. And, amid the ongoing commodity rout, it could very well be the wrong call. But there’s a good chance that market sentiment on the US dollar will change. It’ll all depend on where the Fed takes interest rates.
I don’t think we’re anywhere close to a rate lift off in the US. In fact the Fed could very well surprise everyone and go in the opposite direction. I think it might ease credit again over the next six months. There’s a lot of evidence we could point to support this. But I’d like to focus on one in particular here.
US manufacturing contracted in the September quarter. Manufacturing activity hasn’t been as low since 2009. What did the Fed do back then? It responded by unleashing QE1.
This happened again in 2012, when manufacturing contracted once more. And, like a duck to water, the Fed let QE3 loose.
Now that manufacturing is tanking again, what would you bet on happening? Credit tightening? Or another round of QE? My bet’s on the latter.
Even if the Fed doesn’t ease credit again, there’s a good chance it won’t tighten. And while that flies in the face of everything markets now believe, remember who we’re talking about. Every analyst and investor is as confused as the man on the street.
If you’re like me, you’ll see through the Fed’s double speak. You’ll suspect that the anticipated lift off is months, if not years, away. And you’ll believe that markets have already priced in the effects of the commodity rout. That would make you a contrarian. And a brave one at that.
Let’s face it, there’s as much upside to the Aussie as there is downside. Analysts and experts have a poor track record in forecasting the dollar. So why should you believe them? How can we be certain the Aussie will fall to US$60 in 2016? Truth is, we don’t know. And analysts don’t know either. We’re all playing the same guessing game. Remember that before you take any expert on their word again.
Junior Analyst, The Daily Reckoning
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