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What a higher Australian dollar could mean for the ASX 200 in 2021

As global equity markets remain in a state of flux, we look at the impact a higher AUD/USD may have on the ASX 200 index.

What a higher Australian dollar could mean for the ASX 200 in 2021 Source: Bloomberg

Growth remains a key driver for currency performance

Is the outlook for the Australian Dollar (AUD/USD) increasingly becoming more bullish?

The Aussie was rolled during the height of the coronavirus pandemic, plunging to around the 55c handle in March. Uncertainty ruled the day, equity markets were in turmoil and no one knew exactly what was coming next.

Since then, lax monetary policies have helped boost US equities, put downward pressure on the USD, the prospects of an effective COVID-19 vaccine has also boosted market confidence, while the Australian dollar has recovered strongly since the lows recorded in March. Since January, the AUD/USD has risen from around 70c to 73c.

Macquarie Wealth Management analysts were one of the first investment banks to eye a higher Australian dollar, arguing that the rising global commodities prices could push the AUD/USD to the 75c level. In a more bullish scenario, 'where the CRBRI rises 20% off the low (which is a modest upcycle), the implied AUD/USD is $0.80,’ the investment bank argued.

Commodity prices have indeed continued to trend higher in recent times – thermal coal prices have recovered since their September lows, iron ore remains elevated, and crude last traded close to US$50 a barrel.

With their view of the Aussie tied to a commodities super cycle, Macquarie further argued that domestically-focused names, such as Telstra, Sydney Airport and Crown Resorts would also benefit, assigning Outperform ratings to all three. 2020 has been a difficult year for each of those companies.

On the other hand, companies such as CSL, Computershare and Treasury Wine Estates attracted Neutral ratings from the investment bank – owing to their off-shore operations and the potential impact it might have on earnings.

Another perspective

Morgan Stanley, in a recent note to investors, also forwarded a bull-case for the Aussie, though it focuses more on the broad recovery of the global economy.

As Morgan Stanley notes, a ‘combination of strong growth, ample global liquidity, and a solid fundamental outlook for risk assets suggests that risk-correlated currencies should continue to see tailwinds.’

The investment bank predicts the AUD/USD to hit 77c across 2021.

From the bearish side, while the RBA’s recently announced $100 billion quantitative easing program is likely to be put short-term pressure on the Aussie, Morgan Stanley analysts believe that with a strong economic recovery still expected in the coming year and other ‘positive global factors’, there is likely more upside for the AUD in 2021.

There is however, limitations to this forecasted upside, with it being argued that, the 80c AUD/USD handle would likely be discouraged by the RBA, as such levels are likely be sufficient to impede economic growth.

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ASX 200 outlook: What a higher AUD/USD means for equities

Though the Australian dollar has performed strongly in 2020, local equities markets have fared significantly worse, with the ASX 200 benchmark trading around 1.2% lower since January, last sitting at the 6,598 point level.

This compares unfavourably to a number of key US equity benchmarks – the S&P 500 has rallied firmly YTD, up 11.4% in that period; while the tech heavy Nasdaq 100 has surged an enviable 36%.

Despite that weakness when compared against US benchmarks, analysts from Morgan Stanley believe a higher Australian dollar bodes well for local equities, arguing that:

‘Higher equities tends to occur alongside a stronger AUD despite earnings headwinds - something we envisage occurring next year with the extent of the global growth rebound more important.’

Moreover, like Macquarie, Morgan Stanley believes that a higher AUD/USD positions the resource sector for outperformance, saying ‘we see resources as the biggest beneficiary while low-growth offshore earners may face headwinds.’

This comes after ASX-listed resource large-caps have faced a mixed year in 2020: BHP’s stock is down since January, Rio Tinto is just slightly in the green, while Fortescue Metals Group has surged 72% YTD, lifted by buoyant iron ore prices.

FMG traded at $18.56 at the time of writing.

Will the FMG share price continue to rise?

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