Soaring Australian dollar could fall 25%

Chris Zappone
October 9, 2010

THE Australian dollar's dramatic rise towards parity with the US dollar has left the currency exposed to the possibility of a correction, analysts say.

The Australian dollar leapt to US99.18¢ on Thursday night - the highest level since the currency was floated in 1983 - driven by strong data on the local economy and a weakening trend for the greenback. The dollar retreated to the US98.3¢ mark in local trade Friday afternoon.

''While many in the market believe parity will be reached, it will be difficult to see sustained trading at those levels in the longer term,'' said Travelex's Head of Risk Solutions, Anthony Gray. ''Get ready for the excitement as we reach parity, but do not be disappointed if the party wraps up pretty quickly.''

Advertisement: Story continues below New York-based GFT director Kathy Lien said that when the Aussie's purchasing power was viewed against the purchasing power of other currencies, it appeared extremely overvalued. ''At an exchange of US98¢, the Aussie is approximately 30 per cent overvalued against the US dollar,'' Ms Lien said.

''In fact, the Aussie is overvalued against every major currency including the British pound, Japanese yen, euro and New Zealand dollar,'' she said.

In addition to gains against the greenback, since August 25, the Aussie has risen 5 pence against the British pound to trade recently at 61.8 pence. It has also risen 6 yen on the Japanese currency to be at 80.8 yen, and New Zealand 5¢ against the kiwi to trade at NZ$1.31. The Australian dollar in its 27 years as a freely floating currency has had a long term value of US73.48¢.

''When valuations become this out of line, the general belief is that it needs to return to more sensible levels but it could be a long time before they do,'' Ms Lien said.

The Australian dollar's latest rally was sparked on Thursday when jobs data showed the economy added almost 50,000 new jobs last month - twice the level expected.

The surprisingly large increase led investors to bet the Reserve Bank would raise its key interest rate next month, adding to the relative allure of holding the Aussie dollar.

Also, in recent weeks the US Federal Reserve has hinted it could embark on another round of quantitative easing, a process aimed at bolstering economic growth that also weakens the US dollar against other currencies.

Nonetheless, the Aussie's run has drawn warnings from currency experts about a potential correction once market sentiment shifts. ''In financial markets as in other walks of life, the bigger they are the harder they fall,'' said 4Cast Ltd economist Ray Attrill. ''So if and when we do see a major shake-out … the Australian dollar will likely fall faster and further than just about any other G10 currency,'' he said, referring to the Group of 10 large economies.

Credit Suisse analyst Damien Boey said that on conventional currency assumptions the Aussie dollar could be overvalued by as much as 25 per cent.

''But we don't live in a normal world, because of quantitative easing globally,'' Mr Boey said. ''One day, we will revert to a more normal macro environment, and the currency will correct. But there is no visible catalyst for correction.''


http://www.smh.com.au/business/soaring-dollar-could-fall-25-20101008-16c5j.html