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FOR WHOLESALE CLIENTS ONLY. NOT TO BE DISTRIBUTED TO RETAIL CLIENTS. QUARTERLY REPORT: Q1 2017 AUSTRALIAN DOLLAR FAIR VALUE ESTIMATES Summary of the latest fair value estimates for the major Australian dollar exchange rates as at end Q1 2017: REER it accounts for multilateral interactions between the currencies of trading partners. Chart 1: Summary of Australian fair value estimates Equilibrium bilateral rates can then be derived from the REER to determine a fair value for each exchange rate that is mutually consistent and a significant improvement over traditional Purchasing Power Parity models. Such a valuation model can be used to enhance a currency management framework to help inform tactical hedge ratio adjustments around the strategic policy. However, deviations from fair value can be large and persist for long periods of time. Positioning based on valuation does not manage currency risk and is only recommended in the context of an appropriate currency risk management overlay. For further information about the fair value model and incorporating FX valuations into a currency risk management framework please contact Insight Investment. 35 30 25 20 15 10 5 0 USD ■ ■ USD EUR GBP JPY Q1 2017 Q4 2016 Chart 2: Valuation series of AUD versus USD Fair value Exchange rate Over/under value 0.7875 0.7674 -3% EUR 0.5999 0.7149 19% GBP 0.4530 0.6143 36% JPY 72.99 85.41 17% Source: Thomson Reuters Datastream and Insight. Data period from end Q4 1990 to end Q1 2017. This estimation of fair value for Australian dollar exchange rates builds upon more recent research by the International Monetary Fund and others1. By taking economic fundamentals into account one can estimate the “equilibrium” Real Effective Exchange Rate (REER), around which the actual REER should hover if it is in alignment. The REER is an index that is constructed by taking the weighted average of the bilateral real exchange rates between Australia and each of its trading partners where the weighting scheme is the amount of trade conducted with each. This model assumes macroeconomic fundamentals other than relative prices drive exchange rates and by estimating the equilibrium using the USD per AUD -5 1.1 1.0 0.9 0.8 0.7 0.6 0.5 0.4 Mar 92 Mar 97 Mar 02 Mar 07 Fair value Exchange rate Mar 12 Mar 17 Source: Thomson Reuters Datastream and Insight. Data period from end Q4 1990 to end Q1 2017. Chart 3: Valuation series of AUD versus GBP 0.7 GBP per AUD AUD Over/Under Valuation (%) 40 0.6 0.5 0.4 0.3 Mar 92 Mar 97 Fair value Mar 02 Mar 07 Mar 12 Mar 17 Exchange rate Source: Thomson Reuters Datastream and Insight. Data period from end Q4 1990 to end Q1 2017. Please note the value of investments and any income from them will fluctuate and is not guaranteed (this may be partly due to exchange rate fluctuations). Investors may not get back the full amount invested. 1 Luca Antonio Ricci, Gian Maria Milesi-Ferretti, and Jaewoo Lee (2008), “Real Exchange Rates and Fundamentals: A Cross-Country Perspective”, IMF Working Paper. Enrique Alberola and Daniel Navia (2007), “Equilibrium exchange rates in the new EU members: external imbalances vs. real convergence”, Banco de España Research Paper. Enrique Alberola, Susana G. Cervero, Humberto López, and Angel J. Ubide (1999), “Global Equilibrium Exchange Rates: Euro, Dollar, ‘Ins,’ ‘Outs,’ and Other Major Currencies in a Panel Cointegration Framework,” IMF Working Paper. Kenneth Rogoff (1996), “The Purchasing Power Parity Puzzle,” Journal of Economic Literature. Chart 4: Valuation series of AUD versus EUR Chart 5: Valuation series of AUD versus JPY 120 JPY per AUD EUR per AUD 0.9 0.8 0.7 0.6 0.5 0.4 100 80 60 40 Mar 92 Mar 97 Fair value Mar 02 Mar 07 Mar 12 Mar 17 Exchange rate Source: Thomson Reuters Datastream and Insight. Data period from end Q4 1990 to end Q1 2017. Mar 92 Mar 97 Fair value Mar 02 Mar 07 Exchange rate Mar 12 Mar 17 Source: Thomson Reuters Datastream and Insight. Data period from end Q4 1990 to end Q1 2017. FIND OUT MORE Insight Investment Level 2, 1-7 Bligh Street, Sydney NSW 2000 +61 2 9260 6655 Bruce Murphy Director, Australia and New Zealand [email protected] www.insightinvestment.com Telephone calls may be recorded. Call charges may vary by provider. Margaret Waller Director, Investment Strategy [email protected] This is a marketing document intended for professional clients only and should not be made available to or relied upon by retail clients. Unless otherwise stated, the source of information is Insight Investment. Any forecasts or opinions are Insight Investment’s own at the date of this document (or as otherwise specified) and may change. Material in this publication is for general information only and is not advice, proper advice (in accordance with the UK Pensions Act 1995), investment advice or recommendation of any purchase or sale of any security. It should not be regarded as a guarantee of future performance. The value of investments and any income from them will fluctuate and is not guaranteed (this may partly be due to exchange rate changes) and investors may not get back the amount invested. Past performance is not a guide to future performance. This document must not be used for the purpose of an offer or solicitation in any jurisdiction or in any circumstances in which such offer or solicitation is unlawful or otherwise not permitted. This document should not be amended or forwarded to a third party without consent from Insight Investment. Telephone calls may be recorded. For clients and prospects of Insight Investment Management (Global) Limited: Issued by Insight Investment Management (Global) Limited. Registered in England and Wales. Registered office 160 Queen Victoria Street, London EC4V 4LA; registered number 00827982. For clients and prospects of Insight Investment Funds Management Limited: Issued by Insight Investment Funds Management Limited. Registered in England and Wales. Registered office 160 Queen Victoria Street, London EC4V 4LA; registered number 01835691. For clients and prospects of Pareto Investment Management Limited: Issued by Pareto Investment Management Limited. Registered in England and Wales. Registered office 160 Queen Victoria Street, London EC4V 4LA; registered number 03169281. Insight Investment Management (Global) Limited, Insight Investment Funds Management Limited and Pareto Investment Management Limited are authorised and regulated by the Financial Conduct Authority in the UK. Insight Investment Management (Global) Limited and Pareto Investment Management Limited are authorised to operate across Europe in accordance with the provisions of the European passport under Directive 2004/39 on markets in financial instruments. For clients and prospects based in Singapore: This material is for Institutional Investors only. This documentation has not been registered as a prospectus with the Monetary Authority of Singapore. Accordingly, it and any other document or material in connection with the offer or sale, or invitation for subscription or purchase, of Shares may not be circulated or distributed, nor may Shares be offered or sold, or be made the subject of an invitation for subscription or purchase, whether directly or indirectly, to persons in Singapore other than (i) to an institutional investor pursuant to Section 304 of the Securities and Futures Act, Chapter 289 of Singapore (the ‘SFA’) or (ii) otherwise pursuant to, and in accordance with the conditions of, any other applicable provision of the SFA. For clients and prospects based in Australia: This material is for wholesale clients only and is not intended for distribution to, nor should it be relied upon by, retail clients. Insight Investment Management (Global) Limited is exempt from the requirement to hold an Australian financial services license under the Australian Securities and Investments Commission Corporations Act 2001 in respect of the financial services it provides. Insight Investment Management (Global) Limited is authorised and regulated by the Financial Conduct Authority under UK laws, which differ from Australian laws. © 2017 Insight Investment. All rights reserved. 13414-05-17