An Australian Dollar Play on China's Growth
by Tony D'Altorio, Investment U Research
August 31, 2009
Despite the continuing negative sentiment toward China from much of Wall Street, China's remarkable economic growth continues unabated.
While Wall Street "experts" focus solely on the export-oriented eastern cities in China, they are missing the rapid growth occurring in other parts of China with the government's "Go West" program.
And let's not forget that within a few years, the size of China's middle class will exceed the entire population of the United States.
However, there are still many investors who are not comfortable investing directly in China and buying Chinese companies.
There is another way to invest profitably in the economic growth in China, of which most investors are completely unaware. And it doesn't involve owning any Chinese or Asian stocks.
It is the Australian Dollar.
The Australian Dollar & The Aussie Economy
Before we take a look at the Australian dollar, let's take a glance at the Australian economy.
A few weeks ago, Glenn Stevens, governor of the RBA - the Reserve Bank of Australia (Australia's outstanding central bank) - suggested that the Australian economy could well be coming out of recession in advance of most other developed countries.
Much of the relative strength of the Australian economy is due directly to the strength of the Chinese economy and the natural resource riches in Australia. Not only is Australia blessed with lots of metals and minerals (iron ore, copper, coal, uranium, etc.) that China needs, but Australia also has lots of energy resources as well. The recent $50 billion Gorgon liquefied natural gas project deal is only one example.
At the last RBA meeting, Mr. Stevens not only held interest rates steady at 3% but he also moved from an "easing bias" to a "neutral" stance. This is in stark contrast to the Federal Reserve's zero interest rate policy that looks set in place for the foreseeable future.
The view that the RBA was likely to be the first major central bank to raise interest rates has in conjunction with interest rate differentials, lent considerable strength to the Australian dollar this year.
The Australian Dollar's Link With China's Economic Growth
However, much of the strength in the Australian dollar this year has been due to Australia's link with economic growth in China.
There has been a significant amount of research done by HSBC, which shows that the Australian dollar has become the mirror image of Chinese economic activity.
Getting an accurate picture of Chinese economic activity is always difficult, but HSBC has isolated Chinese electricity production as the most reliable measure of the Chinese economy. The Australian dollar and Chinese electricity share the same price chart patterns, at least over the past three years.
From a big-picture fundamental standpoint, this link is a very important development. The Chinese now know they can invest in Australia and not face a serious currency risk.
This may lead to China not only investing further into Australian resources, but possibly also into other segments of the Australian economy such as real estate.
China will also most likely support the Australian government debt markets on a much larger scale. This will lend strength to both the Australian bond market and the Australian dollar.
This is in stark contrast to China's fears about the future of the American dollar and the potential huge losses it faces if the dollar continues its downward path.
Australia is in a privileged position relative to the economic boom in China. Australia also has a stable political system and a fairly sensible legal and regulatory framework. All of these factors should see increased capital flows from around the globe move into Australia, further strengthening the Australian dollar.
The bottom line is that global investors who want to invest in China can do so via Australia with far less risk.
Three Ways to Invest in Australia
Here are three ways American investors can invest in Australia - through its currency, equities and bonds.
- CurrencyShares Australian Dollar Trust ETF (NYSE: FXA) - This ETF is designed to track the performance of the Australian dollar. The Australian dollar is currently the sixth most traded currency in the world and the US Dollar/Australian Dollar pair is the fourth most traded currency pair.
- iShares MSCI Australia Index Fund ETF (NYSE: EWA) - This ETF contains Australia's largest companies such as natural resource giant BHP Billiton, which is over 15% of the index. Other significant components of the index include many of Australia's large financial institutions.
- Aberdeen Asia-Pacific Income Fund (NYSE: FAX) - This is a closed-end fund intended for income investors. The fund invests a majority of its money into high quality Australian debt. The fund pays a monthly distribution and is currently yielding about 7%.