Can Australian Stocks Defy Gravity if The Australian Dollar Falls?

Over the past two weeks I’ve said that the Australian dollar was looking vulnerable to a near term sell-off. I pointed out that the last major line of support is around US$1.015.

After the interest rate cut on Tuesday we saw the Aussie sell-off sharply to, you guessed it, $US1.015.

Now things start to get interesting for the Aussie. In the last two and a half years every time this level has been broken the Australian dollar has sold off in a straight line to between US$0.94-$0.985.

I don’t think this time will be any different. The Aussie has been in a tight range between US$1.015 and US$1.06 for ten months now. The coke bottle has been shaking up for a long time in other words. Once the support level gives way you’ll see the Aussie hit parity in a matter of days…

The reason why I’ve spent so much time talking about the Australian dollar lately is because the short term charts are now lining up quite nicely with the very long term charts. There is a line of dominoes set up that if pushed could cascade into a steeper fall than anyone expects.

To show you what I mean, have a look at the monthly chart of the Aussie going back to 1991:

Australian Dollar Monthly Chart

Click to enlarge

I use the 10-month/35 month moving averages to give an idea of the very long term trends. You can see that it has been amazingly accurate at sticking with multi-year trends.

We’ve only seen two instances in the last 20 years where the 10-month moving average has crossed under the 35 month moving average in the Aussie. The first one in mid-1997 was at the very beginning of a five-year bear market in the Australian dollar.

The second time was during the crash in the Aussie in 2008. It moved so fast and viciously at that time that the signal showed up fairly late.

The Australian Dollar on the Edge

We’re now on the edge of receiving the third very long term signal in over twenty years.

The other interesting technical development over the long term is the symmetrical triangle that has formed for the past couple of years (the dashed lines in the chart). A failure below the lows of that triangle around US$0.98 could spell trouble.

Yet another thing that I want to point out is the major high in 2008 of US$0.985 (The solid blue line). I think that level is a very large line in the sand for the Australian dollar.

It has held above that level for the majority of the time since late 2010. A lot of long positions have been placed above that level and I think we’ll see some serious liquidation if it starts trending below US$0.985 for any length of time.

On a monthly chart I would see a failure below the 2008 high as a ‘false break’ of the high, even though it has taken three years to play itself out. Or you could look at it as a double top formation.

Fundamentally we know that the Aussie should be trading a lot lower than here if it wasn’t for the influx of money from offshore hunting some yield and escaping their own devaluing currencies.

That theme is incredibly powerful and there is no indication that the major central banks around the world are about to stop printing. For that reason I would be surprised to see a sharp collapse in the Aussie like the one we saw in 2008.

But I really wouldn’t be surprised to see the Aussie heading towards the low US$0.90’s over the coming six to twelve months, especially if we see a continued deterioration in the economic data worldwide.

US Macro Data Keeling Over

Source: ZeroHedge

As you can see from the chart above the US economic figures released over the past couple of months have been deteriorating sharply. Whether this is just a short term slowdown or something more sinister is still unknown.

On the same theme, it looks like George Soros has once again done his homework and started picking on the Aussie dollar at exactly the right time. The rumours of his entry into a short trade on the Australian dollar could be enough of a catalyst to get the ball rolling, and the interest rate cut has added fuel to the fire.

I think we will see the US$1.015 level give way within the next week or so, and then the dominoes could really start to fall.

It’s still an open question whether this development will be bullish or bearish for Australian stocks. There are sectors of the economy that have struggled under the weight of the strong Aussie dollar and we could see them breathe a sigh of relief if it stumbles.

The heavily beaten up resource stocks would be in that category as well as any companies in import competing businesses or with large revenues offshore.

But on the other side of the coin we may see some offshore money pulled out of Australian stocks if the currency starts to head south at a rate of knots.

As I’ve said many times in the past, there is a very high correlation between the Aussie/Yen and our stock market due to the influence of the carry trade and the high levels of Japanese cash now looking for a home outside of their own weakening currency.

If the Aussie/Yen plummets then it would be hard for Australian stocks to defy gravity.

Murray Dawes
Editor, Slipstream Trader

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PS. Rumour has it that George Soros cleaned up by punting on the Aussie dollar this week. True or not, it should have you thinking about how to protect your investments if the Aussie dollar falls…especially if you own shares in companies that will suffer from a lower Aussie dollar. In today’s Money Morning Premium, Kris looks at a neat ASX-listed investment that could fit the bill. Click here to upgrade now.

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Murray Dawes is the Editor of Pivot Trader and contributing Editor at Money Morning. He was one of five, from 5,000 applicants, chosen for a graduate position with the Swiss Banking Corporation — now part of banking giant UBS. The bosses quickly cottoned on to his potential and pushed him up the ranks as a futures broker on the floors of the Sydney Futures Exchange. Murray later broke out on his own and developed custom trading systems to trade leveraged financial instruments like futures. Due to his success, Murray became the ‘hired gun’ trader for Australia’s rich and famous. Today, Murray runs a trading service through Port Phillip Publishing to help everyday Aussie investors use his advanced trading methods.

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