The Australian dollar could rise after the US Federal Reserve this week lifts interest rates for the first time in almost a decade, with the accompanying commentary key to how far and for how long the local unit rises.
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Experts say with the greenback already priced fully for the long-awaited start to US monetary tightening, expected early on Thursday Australian time, the US currency could dip for a while before resuming the rally which has helped pummel emerging market and commodity currencies for the better part of the last two years.
Much will depend on the language in the Fed's Open Market Committee statement about the frequency of follow-up rate hikes.
The Australian dollar has proved unusually resilient in recent months despite further declines in the country's terms of trade, which measures export prices against imports.
If this strength was to continue, it could undermine the already sluggish transition from mining-investment led growth to a more balanced mix of consumer spending, non-mining business investment and services exports.
"The last thing you want to see is the Australian dollar going up," said Goldman Sachs' head of portfolio strategy and quantitative research Matthew Ross.
Spreading effect
The imminent rise in the Fed funds rate, from close to zero to around 0.25 per cent, and a new seven-year low in oil prices, is also roiling junk bond and emerging markets. This has prompted big investors to warn the upheaval may infect other financial assets.
The shock decision late last week by respected Wall Street firm Third Avenue Management to shut down its $US789 million high-yield credit fund and prevent investors redeeming cash sent shudders through US markets on Friday.
The S&P 500 Index fell 1.9 per cent to end the week down 3.8 per cent, and the value of high-yield corporate bonds tumbled to their lowest level since the fall-out from global financial crisis in 2009.
In Australia, meanwhile, the S&P/ASX 200 ended down 2.4 per cent last week, and futures pricing points to a hefty fall, of 1.45 per cent, at the opening on Monday.
The prospect of gradually rising US borrowing costs and a lower-for-longer oil price has spooked investors into dumping bonds of energy and other risky companies who vacuumed up cheap debt in the record-low interest rate era.
The value of Third Avenue Management's high-yield credit fund had plunged from about $US2.5 billion to $US789 million, after bets on very low rated and unrated corporate debt turned sour. Underlining the lack of buyers for high-yield paper, and giving credence to warnings about illiquidity in bond markets, the firm has reportedly had difficulty dispensing of the securities.
Redemption suspension
The Wall Street Journal reported that hedge fund Stone Lion Capital Partners had also announced the suspension of redemptions in its credit funds because too many investors had requested their money back.
High-yield-bond exchange-traded funds JNK and HYG, meanwhile, fell to their lowest since 2009.
The question on the minds of fixed-income investors is whether the Third Avenue Management shutdown was isolated or if other credit funds would follow suit.
"HY[high-yield] fund closes exit doors. Who will get in if you can't get out? Risk off," Janus Capital portfolio manager Bill Gross tweeted on Friday.
Billionaire hedge fund tsar, Carl Icahn, who has been bearish on the bond market for months, warned, "the meltdown in high yield is just beginning".
"The high-yield market is just a keg of dynamite that sooner or later will blow up," he said.
But Goldman Sachs Asset Management's Asia-Pacific head of fixed income, Philip Moffitt, said on Sunday he did not expect the fund's closure to cause investor panic.
"We hadn't really been talking about funds closing or finding it difficult to field redemptions specifically, so I guess that's a bit of a surprise," he said.
"But it does illustrate in this issue, which is a very real one, that liquidity is worse than it used to be and it's less consistent than it used to be."
Risk aversion
Reflecting this renewed aversion to risk, the MSCI Emerging Markets share index lost 2.2 per cent last week, to fall to its lowest level since August, as investors dumped the shares and currencies of commodity exporters South Africa, Brazil and Indonesia.
Brent crude oil, the global benchmark, lost 4.5 per cent to touch levels last seen in 2008, after the International Energy Agency said the global supply glut would persist until at least late 2016.
European stocks were also sold off, with the Euro Stoxx 50 losing 2 per cent, partly in response to further devaluation of yuan, which some pundits see losing up to 10 per cent of its value next year.
Despite a solid though unspectacular US economy, the ructions in bonds, commodities and equities complicate the task for Fed chair Janet Yellen.
Bond fund king Jeffrey Gundlach said if the Fed had met last Friday it would not have raised rates.
"The economy is supposed to be good, but the markets are highly suspect," he said.
Wingate Asset Management's chief investment officer Chad Padowitz said he expected the Fed's commentary to suggest a "gradual and data-dependent" series of interest rate hikes after this week's lift-off.
"Given how well telegraphed this rise is, I would expected very muted reaction," he said.
"Banks and insurers will do better in rising rate environment while housing related and consumer sectors would be worse.
"The bigger issue is now for the first time in many years you have the US, owner of the world's reserve currency, tightening against a global backdrop of weak growth and loosening monetary policy elsewhere," he said.
"This should make it tough on commodities and emerging markets, albeit much pain is already there."
