Recent statements from Reserve Bank of Australia (RBA) Governor Glenn Stevens have changed the country’s interest rate outlook for the remainder of this year. Citing relatively stable consumer inflation levels (that are still well below the RBA’s target of 3%), Stevens’ has essentially prepared markets for a more supportive policy environment that will generate downside pressure on the Australian dollar and put a floor under the benchmark S&P/ASX 200 stock index in coming months. When we look at Australian stocks on a comparative basis, this creates some attractive scenarios for investors looking for long-term exposure to markets outside the U.S.
The declines in the S&P/ASX 200 that were seen in May and June sent market valuations to new yearly lows at a time when the benchmark’s U.S. counterpart was pushing forward to new all-time highs. But when we look at the relative central bank stances in both countries, trends like these start to look misplaced. Specifically, quantitative easing programs in the U.S. are likely to see reductions in monthly asset purchase amount as early as September. Several voting members at the U.S. Federal Reserve have already been vocal about the disruptive effects of these seemingly endless stimulus programs and have called not only for their elimination but for a return to normalized interest rate policies as well. In short, stock markets in the U.S. continue to trade near record highs as stimulus programs will soon be discontinued. This marks a strong contrast to the environment that is beginning to unfold in Australia.
Banking on the RBA
The measures that have been most recently proposed by the RBA will make investments in the country’s currency less attractive, given the reduced yield incentive that will be present for those holding the currency long term. This is a negative for those with holdings in the CurrencyShares Australian Dollar Trust (NYSEARCA:FXA), which tracks the value of the Australian currency. But the exact opposite is true for investors with exposure to Australian stocks – especially for companies with a strong export base. Supportive monetary policy on the domestic front is now coupled with a declining exchange rate (making Australia’s export products less expensive for foreign customers), and a broader stock market that is priced cheap relative to its global counterparts. All of this points to long-term upside in Australian stocks.
So, how can we play these themes in the active market? One of the easiest options is to use closed-end funds that offer exposure to companies in the region. Closed-end funds offer a fixed number of shares, tying valuations more closely to supply and demand (as opposed to net asset value, or NAV).