Dollar bubble faces the needle

Dollar bubble faces the needle

Mon August 20, 2012 7:02pm

While markets and the Australian media continue to celebrate a high dollar, the currency is facing weakening fundamentals.

While global markets and the Australian media continue to celebrate a high Australian dollar, the truth is that the currency is facing weakening fundamentals.

The prime culprit is iron ore, which is dragging down the terms of trade much faster than anyone in authority has predicted.

In fact, our number one commodity export, which many grey beards of Australian economics have nominated as the primary cause of the high dollar, has fallen 20% in the last month and is down almost 40% on last year's highs.

Iron ore by itself represents more than 20% of Australia's terms of trade so the recent falls constitute a 5% hit to the terms of trade. More worrying, however, is that there appears no immediate relief in site for the commodity.

A technical analysis of iron ore shows a head and shoulders topping patterns on both the spot price and the 12 month swap price:

The downside targets implied by these charts are below $US100.

Technical analysis is a tool not a forecast but the fundamentals look weak enough to take this seriously. An excellent report in the AFR this morning shows just how weak, with a series of bearish quotes from analysts:

The managing partner of research firm J Capital in Beijing, Tim Murray, said that while official data indicated steel production was flat, he estimated it fell by as much as 10 per cent over the first 15 days of August.

“This is the first indication of significant cuts,” he said. “There are some seasonal factors at play, but the volume coming off is unusual.”

…But many analysts are doubtful existing stimulus measures will be enough to underpin demand. “The present malaise [in the iron ore market] is likely to continue for the rest of the year,” CLSA commodities analyst Ian Roper said.

…“The property and ship-building sectors are sluggish,” said Qiu Yuecheng, a senior analyst at Xiben New Line, a steel trader. “Purchases of steel in Shanghai fell 15 per cent in July from the previous month.”

Since last year, there has been some offset to declining prices in rising volumes but there is little hope of that continuing in this environment. Chinese steel prices remain weak:

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