By MoneyMorning.com.au
If you’ve ever jumped out of a plane, off a bungee-jump ledge, or even just off a cliff-top into the ocean, then you’ll know about the ‘Zero-G feeling’.
It’s the rush of adrenaline as the fundamentals of physics accelerate you towards Earth at 9.8m/s2.
Right now, there is something else experiencing that same Zero-G feeling: the Australian Dollar.
It just keeps on falling. It hit 93.27c last night, which is its lowest level since 2010.
This means that in the space of just two months, the Australian dollar is now off by 12.1%. This may not sound like much, but for a currency, it is a HUGE short-term fall.
And importantly…this huge fall is translating into a much-needed dose of adrenaline for mining stocks…
You see, if your operating costs are in Australian dollars, and your product sells in US Dollars…a lower Aussie Dollar means bigger profits.
So a 12% fall in the Aussie Dollar is a real shot in the arm for mining stocks.
It’s that simple.
Lower Australian Dollar = Stronger Mining
It’s the same for anyone selling a local product to the global market; miners, farmers, and tourism operators, for example. A lower currency makes the process much more profitable.
Since the Australia Dollar cracked in earnest at the start of May, the Aussie market is down by 10%.
But in direct contrast, the Metals and Mining index has held its ground because a weak Aussie has been a breath of fresh air.
Admittedly, simply holding its ground is hardly shooting the lights out. However it’s notable given the wider market carnage. It’s also an improvement on the two and half years of falls in the mining sector that preceded it.
A falling Aussie only works in the favour of mining stocks providing it’s not matched with a corresponding fall in commodity prices (caused by a rise in the US Dollar equal to the fall in the Aussie).
And so far, commodity prices are holding. The commodity price indices like the CRB and CCI are off by just a few per cent each. Those indices are internationally focused.
However, a more locally tailored measure, the Australian commodity price index from Commonwealth Bank, is flat (in $US terms) at 366 compared to the start of May, and rising strongly in Aussie dollar terms.
How much the plummeting Aussie will affect a miners’ bottom line will also depend on currency hedging, which varies between companies.
All the same, the broad theme across the sector is that operating costs (in Aussie dollars) are falling, and prices of finished product (in US Dollars) are holding steady. The outcome is better profits, and they couldn’t come at a better time.
Aussie Dollar: ‘Whipping Boy’
For a country with just 23 million people, it’s surprising that our currency is the fourth most traded globally (after the USD, EUR and JPY).
It has long been a favourite for foreign exchange traders, as it’s liquid and is a good China proxy. But after making a fortune trading it all the way up, these traders have turned on the Aussie. In fact, the mood has turned to the extent that our national currency now has the nickname ‘Whipping Boy’ at trading desks globally.
A whipping has been well overdue. The Aussie dollar had been stuck in a rut around $1.05 for two long years. Rate cuts from 4.75% in 2011 to 2.75% in 2013 didn’t touch the sides. Falls in key commodity prices like coal and iron ore made no difference. Only hot-money yield-hunters kept it up. Something had to give.
Then George Soros hit the ignition. Rumours circulated he had a big short position against the Aussie Dollar last month. Even though it wasn’t a huge bet, it was the catalyst needed.
A rate cut, suggestions of more, and weak data from Australia and now China, and the trade just keeps going. Prominent funds like Blackwater and Blackrock are on board. Duquesne Capital expects the Aussie to ‘come down, and to come down hard’.
But just how far could the Aussie fall?
Well if you ask the Organisation for Economic Co-operation and Development (OECD), they thought the Aussie was 60% overvalued when it was $1.06. This means 66c would be fair value! Is a fall that low possible? It’s hard to imagine today, even though we saw it in the GFC.
Our resident technical trading expert, Murray Dawes of Slipstream Trader, predicted this move. Now that it’s under the 93.8 level seen in 2011, he emailed me this morning to say:
‘The unwinding of carry trades is now entering its serious phase. The Aussie/Yen is being hit very hard and the AUD/USD is not far behind. The 2011 low of $0.9386 is the last line of support for the Aussie battler and I suspect that we will end up seeing a false break of that level and then a large short squeeze before keeling over and plumbing new lows.
‘If this level can’t hold the next line of support is down at $0.88c and from there to the low US$0.80′s. I think we will end up in the US$0.80′s at some point this year but as always the market never moves in a straight line and the Aussie dollar is looking very overstretched on the downside.’
So we may see a short bounce first, but Murray sees it falling after that. More Zero G for the Aussie Dollar will be music to the ears of miners. Not just for profitability of current operations, but the profitability of future operations.
Part of the reason capex spending has been cut back (which is why the sector is in such a bad mood today) is that the high Aussie dollar made future operations unviable. So the whipping the Aussie dollar has taken could be a game changer in the capex department too.
There’s no denying that mining stocks are in the doldrums today, but investors are overlooking the effect a lower Australian dollar could have on mining stocks. Already it has seen stock prices stabilise after falling for two and a half years. And if the Aussie had further to fall, the turnaround in stocks may have much further to run.
This is all happening while the mood is still intensely negative on the mining sector, which to me spells an opportunity worth watching.
It’s in these dark days that real opportunities are born.
History tells us this lesson again and again, though when you are at the end of two-and-half-year bear market in resources, it’s a lesson you have to remind yourself of. One of my favourite illustrative tales comes from the year 1839.
Opportunities in Adversity
In my weekly update to Diggers and Drillers subscribers last week I included a story from the book The Birth of Melbourne which recalls an account of a man sailing from Plymouth to try his luck as a merchant in ‘Australia Felix’.
His was a frank account of the trials of migration in the 19th Century. For starters, his son almost died during the journey. Then when they arrived they couldn’t afford accommodation. Work was very hard to come by. Disease was rife. Prices were exorbitant.
Here’s an extract:
‘Our tents one after another had been upset in the middle of the night. On two or three occasions, the wet had come through the top of the tents with running streams passing through the centre. Our furniture was drenched, blown down and broken. Sophia and the children were repeatedly unwell and to add to our dilemma the weather prevented the workmen from erecting our cottage.
‘And it was quite out of the way to think of endeavouring to find house room anywhere, single small rooms letting from one or two pounds a week in bare wooden sheds.
‘Added to this I had enough to do to attend to my family and was unable to commence business… and with a family such as I had with me, the matter became so serious that I believe I once expressed a wish to Sophia that I had not come. Under this feeling I refrained from writing, but I still think it right to tell you exactly how I felt and was situated.’
It’s an emotional account, and there was plenty more hardship. But he persevered. And slowly and stubbornly he became a standout success. It’s a classic tale of the pioneer spirit, and I’d recommend the book for this chapter alone.
So why am I telling the tale?
Firstly, the author was none other than Jonathan Binns Were, better known as J.B. Were.
He went on to establish one of Australia’s biggest stock broking firms, and one that still stands today as a well-respected wealth management firm.
Secondly it’s a good illustration of the opportunities in adversity. J.B. Were would have faced the same challenges as the many other hopefuls.
But when things are at rock bottom…if you play your cards right, and keep your head when others are losing them, then the only way is up. And that is exactly how I view the mining sector today.
This is the bottom; this is when you get involved. This is when the real opportunities appear. And with the Australian Dollar crashing, the turnaround is starting now.
Dr Alex Cowie
Editor, Diggers & Drillers
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