Australia’s ASX 200 Index is off its lows and may rise to the $300 mark. The strong US dollar is playing a key role in this positive development, but this does not mean that the Australian market is overvalued or that it will be unaffected by what happens to the US dollar. The Australian Index is one of those markets that has managed to withstand the global financial turmoil while making some good profits in recent months.
One way to understand why the ASX 200 Index may be poised for growth is to appreciate the fundamental strength that underpin this Australian share market. This is a market that enjoys good domestic employment levels, a stable housing market and high inflation. A strong infrastructure, a thriving education system and a positive business environment to make the Australian economy highly favorable to investors.
However, in order to fully appreciate the impact of a stronger US dollar, one needs to appreciate the importance of the outlook that is currently shaping up for the US economy. The US Federal Reserve is widely expected to cut interest rates to a record low during its upcoming Federal Open Market Committee meeting, and with the US economy forecast to grow at 2.2% in the next two years, this would lead to substantial gains for Australian stock in this regard.
Australian companies are well placed to benefit from a sharp rise in US interest rates, as many of these companies are dependent on a large number of US customers. Many of the world’s largest financial institutions own Australian stocks and this exposure can create a great deal of potential growth for the Australian share market. These financial institutions will be able to use this opportunity to boost the value of their portfolios.
The outlook for the US economy also provides the Australian share market with a head start, with the Federal Reserve expected to cut rates to a record low and begin to increase the cash rate. This is an important development for the Australian share market but one that is unlikely to provide the boost in growth that the ASX Index could enjoy if the UK economy falters. The weakening of the US dollar should mean that the Australian dollar should appreciate against the US dollar, and this means that Australian companies can enjoy good growth prospects.
However, while a rise in the Australian dollar may be good for the ASX Index, a fall in the US dollar may mean that Australian shares lose their appeal and that Australian investors should take some form of protection against these negative consequences. If the US Federal Reserve follows the advice of some of the European Central Bank and raises its interest rates, the Australian share market will lose some of its attractiveness.
This has been caused in part by the recent announcement that the US Federal Reserve has purchased massive amounts of Treasury Bonds, as part of its strategy of trying to stimulate growth through buying up bonds. The European Central Bank has issued some negative signals in recent weeks, but it is unclear whether this will have a big effect. If the Australian and European economies both move in the opposite direction, the Australian dollar may decline against the US dollar, which will make Australian shares less attractive, especially if there is an adverse reaction to the weaker US dollar in both markets.
One thing is certain: the strength of the Australian economy and the relative stability of the American economy are a major reason why Australian shares are expected to continue growing. The strength of the Australian economy, which has been built on solid domestic employment figures, the stable housing market and a very favourable interest rates environment, is a factor that is set to continue to underpin growth in Australia.