Opinion: Looking for a sure thing ? Try selling the Kiwi dollar

By NZPA

Friday 20th April 2007

Pssst want a sure bet on how to make money -- try setting up a foreign currency bank account.

Unless you are an extreme pessimist about the US political and economic outlook, the US-NZ dollar exchange rate is certain in the not-too-distant future to subside from this week's level near US75 cents.

Take a look at any graph and you will see the peaks for the kiwi at US72c in 1988 and 1997 and then US74c in 2005 have been short-lived.

Two weeks after the kiwi hit a then post float of US74.65c in March 2005 it was buying US70.70c -- a 5% slide.

BNZ currency strategist Danica Hampton says "a substantial pullback" is inevitable although she warns it might not be any time soon.

However, as one dealer once told me, picking bottoms (and tops) is a messy business and when the downswing occurs, it is likely to be rapid.

Hedge funds have been playing the kiwi big time and when they decide they've had enough, you won't have time to set up an account.

There's big money to be made or lost in currency swings.
Over the four years from November 1996 until October 2000, the kiwi lost 45% of its value against the greenback. Over the next seven years it almost doubled in value from a nadir of just over US39c.

Hampton cites a number of reasons why the kiwi might rise a bit more before it subsides. Firstly, Reserve Bank Governor Alan Bollard is likely to hike interest rates once, if not twice, more in the next two months.

Secondly, New Zealand commodity prices, particularly dairy prices, are near record levels. Thirdly, US interest rates are likely fall to cope with an economic slowdown, with former Fed chairman Alan Greenspan predicting a 30% chance of recession.

Fourthly, the popularity of the carry trade -- borrowing in low yielding regions such as Japan and investing in high yield areas such as New Zealand -- remains as popular as ever, if not more so, since equity markets have stabilised after the Shanghai sharemarket hiccup in February.

Hampton concludes: "While a substantial pullback at some point is inevitable, there is no sign that this likely in the near term."

Trouble is you never get warning of what will trigger the pullback. One sure signal will be if Bollard signals his tightening squeeze is enough to stop house prices rising and strangle inflation. But foreign exchange markets have the habit of pre-empting such moments, seizing on the unexpected and then racing away with unstoppable momentum.

Although US dollar bank accounts pay less than NZ dollar ones, they still pay around 4.5% for those who have around $10,000 in them.

Banks report an increase in inquiries for such accounts, which are relatively easy to open.

Investment broker First NZ Capital has for some months been advising its clients to invest more overseas.
"We see value in offshore assets and have been recommending that. Lately it has been more compelling and something we've been quite strong on," said First NZ Capital client adviser Sam Howard.

There are number of reasons -- most importantly that investments should be diversified. Most New Zealanders have most assets including their homes in New Zealand dollars. If New Zealand is hit by a foot and mouth disease, earthquake, tsunami or the like it makes sense to insulate by holding a proportion of assets in foreign investments.

Secondly, says Howard, New Zealand stocks right now seem a little overvalued from a prospective price earnings ratio perspective. PE ratios here are averaging over 17 compared with around 15 in Australia and the United States.

"It remains rather stretched in valuation terms relative to both its historic norm and its traditional relationship with the world market," First NZ Capital said in its April newsletter.

It notes that while economic growth has been surprisingly resilient, the economy will slow, especially as Bollard repeats his nasty medicine. In the last reporting round, First NZ analysts made 34 downgrades of forecast company earnings against 11 upgrades.

"Higher interest rates reinforce the stronger-for-longer profile for the NZ dollar, but we maintain our view that there is significant downside risk and little upside potential from current high levels.

"From a tactical investment perspective, we believe clients will be served best by continuing to diversify into global equities."
While First NZ Capital reckons it can provide a little extra for clients by advising them into particular stocks, Howard says there are huge benefits from investing in trusts and general funds.

For those simply wanting a currency play, the key is not to take on double risk by investing in stocks that undo work on the currency.

You can invest in the S&P 500 index without having to be a clever stock picker. Or you can buy a blue chip such as Microsoft or Wal-Mart.

"You can lose sight of your initial view. If you want to play the US currency because you see opportunity there, you don't want to blow that up with some flavour of the day stock picking," says Howard.

It should be noted even picking a diversified fund is not a sure-fire way to make money. The US S&P 500 index has risen from 1250 at the start of 2006 to 1470 today -- an 18% gain. However, over that period the New Zealand dollar has appreciated 10%, wiping out a good portion of that gain and certainly less than the NXSX-50's 24% gain over the same period.

There is also the issue of the new tax rules applying from April 1 to foreign shares. These assume a 5% rate of return, despite the fact many US stocks don't pay big dividends. In the past, investors have done well from the untaxed capital appreciation of low yield stocks, but First NZ Capital suggests the tax change could encourage investors to look for stocks yielding more that the 5% fair dividend rate.

First NZ Capital agrees with many other analysts the New Zealand dollar is likely to rise further.

However, with a current account deficit already at a barely believable 10% of GDP, things in that direction can only get worse with the kiwi up at US75c.

Come Christmas time, it wouldn't surprise to find a kiwi with its first number as a five rather than a seven. Knowing you have a few foreign dollars may ameliorate the rising cost of computers, cars and your next overseas trip.

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