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The divergence between the falling commodity prices and the AUD over the past two years is rapidly breaking down. The AUD has been heavily supported by unconventional monetary policy around the world and the search for yield that came with these policies.
However, with banks becoming less appealing on the yield front and the USD and bond market becoming the investment vehicle of choice, the AUD is returning to its fundamental position of being a commodity currency and it has a way to catch up to the fundamental value a commodities currency should have.
With OPEC talks continuing to yield no binding agreements, the market will have to wait until Thursday for the full announcement from Vienna. How the bloc will operate into 2015 looks fraught with difficulties, as the group is unable to work together. The market is expecting cuts to production with crude falling a further 2% to close at a 4-year-low. This suggests harder cuts would be needed to stabilise the price. Watch for further hurt in the energy plays today.
Iron ore delivery into Tianjin hit US$68.60 a tonne - another five year low - and sees the price back at the ‘glut’ level of 2009. The PBoC sugar high has been completely forgotten, as the lending ability of Chinese investors remains tough and the debt burden is still at elevated levels.
I will note, however, that cutting interest rates is a signal of intent; 2015 is likely to see more of these moves from the PBoC. Disinflation is a real burden on real rates and with lending participants experiencing high funding cost and the inability to refinance, the PBoC will look to remedy this sooner rather than later. Further liberalising of funding methods and the reduction of financial barriers are highly likely announcements for 2015. However, this is still months away and the demand for industrial materials looks set to remain sluggish for the final five weeks of the year.
Ahead of the Australian Open
With the AUD finally falling towards historic levels, the benefits for exporters will no doubt increase. However, the state of the Australian economy remains downbeat. Interestingly, the majority of sell side analysts still have rate hikes priced into their models, as do most economists in 2015.
The market, on the other hand, is pricing in a 40% chance of a rate cut and from the current data to hand, I agree with this conclusion. The non-mining slack remains unmoved and even with current easing measures, unemployment is elevated and showing no signs of abating. The regulator is on the verge of introducing macro-prudential leaves on the housing market and wage growth is flatlining. The Australian economy for 2015 is a real unknown and that's why I am skewed to a rate cut rather than a rate hike. The RBA will be watched with even more interest next year.
However, despite plummeting commodity prices the falling AUD looks like assisting the local market. We are calling the ASX up 24 points on the open to 5359. BHP’s ADR is pointing to a gain of near enough to 1% for the big miner and talk that Glencore is again after Rio will do its share price no harm at all.