Download AUSTRALIAN DOLLAR FAIR VALUE ESTIMATES

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.
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Sydney NSW 2000
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Bruce Murphy
Director, Australia and New Zealand
[email protected]
www.insightinvestment.com
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Margaret Waller
Director, Investment Strategy
[email protected]
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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
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