Biggest drivers of our dollar + What US investors do differently

Hi everyone,

First time in Washington DC and loving our visit. Beautiful weather and Libby and I have certainly racked up the step count visiting all the museums: African American, American Indian, Air and Space, American History, and there is even a Bible Museum, have all been great.

But our favourite has been the little-known Spy Museum which was incredible. We spent hours learning about history’s most famous spies and missions with great video interviews from the spies themselves, their handlers and the spy chiefs from the CIA, Mossad and MI6. If you love a good spy book or movie, then this is the museum for you.

Tomorrow, we start our road trip to Dallas with the first night in Gettysburg.

On the economic front it was a very quiet week ahead of the all-important September quarter CPI figures next Wednesday. There has been some commentary this week that the rapid weakness in the economy could see the RBA move quickly to cut interest rates.

Wednesday’s quarterly CPI figure is crucial for that to happen and then there are also retail trade figures next week as well.

With most other major central banks cutting interest rates, there is naturally an impact on global currencies. As trillions of investment dollars swish around the world chasing the best interest rate return, a cut in rates will see money flow out of that currency and into another country with higher rates. And the currency’s valuation will change accordingly.

This is how currencies have performed this year against the US dollar:

In this week’s newsletter:

• What drives the value of the Australian dollar?

• How does our ‘property bubble’ compare with the rest of the world?

• Is modular housing the key to housing affordability?

• How Americans invest differently to Australians.

What drives the value of the Australian dollar?

Since Paul Keating floated the Australian dollar 30 years ago, the average value against the US dollar has been in the mid to late US70 cent range.

That’s a big range for such a small economy. In fact, the Aussie dollar is one of the most traded currencies in the world.

A high Australian dollar means cheaper imports and overseas travel but less competitive exports. So, it’s a two-edged sword.

It is incredibly hard to make a prediction on the currency but you can get an idea of the future trend by understanding the main drivers of the dollar. They are:

US dollar

‘The Aussie’ (dollar) is compared most often against the US dollar - which is regarded as the world’s trading currency. The greenback is usually the common payment currency in trade between different countries.

So, if the US dollar goes up in value, the Aussie will fall in value by comparison even though nothing economic or financial may have happened.

So keep a watch on the US economy because if it continues to improve, their currency will continue to appreciate and ours will fall back.

Safe haven

In a world where Europe is in recession and its sovereign debt problems are far from resolved, China’s growth has slowed, Japan is insipid and the US economy is slowing, investors are understandably nervous.

Put yourself in the place of a big German or Brazilian pension (superannuation) fund manager trying to look for a safe place to invest client money and get a reasonable return.

Australia is a country with a Triple A rating from all three major credit agencies, has stable political and legal systems while sitting on the edge of the Asian economic miracle. When the rest of the world looks dodgy, Australia has become a safe haven for major overseas investors.

As all this investment money pours in, our dollar gets pushed up. That will continue as long as the economy stays solid and we maintain that all-important credit rating.

Interest rates

While those big overseas investors want a safe haven for their money, they also want to maximise returns. We’re offering amongst the highest interest rates in the world when compared to Europe, Japan and the US where rates are lower.

While that interest rate differential stays, we’ll keep attracting money.

But keep an eye on central banks around the world. If the US Federal Reserve, the European Central Bank, Bank of Japan or the Bank England decide to cut their interest rates further as their economies weaken, those overseas investors could shift their cash elsewhere which would put downward pressure on their currencies.

The same could happen if the Reserve Bank starts to cut our interest rates substantially.

Commodity prices

Australia is a trading nation. While the US economy is driven by the American consumer, Australia grows on the back of our exports.

Our biggest exports are minerals and our biggest customer is China, which buys a third of those exports. For right or wrong, the world sees us as a giant quarry and farm fuelling the developing economies of Asia and Japan.

So the value of our dollar is linked to commodity prices such as coal, iron ore, gold, wheat and beef. If those prices go up then the Aussie gets stronger and likewise, it gets weaker if those prices go down.

How does our ‘property bubble’ compare to the rest of the world?

Housing policy has once again been a big political issue this week as politicians scramble to try and tackle affordability.

Australians love property and investing in “bricks and mortar”. The problem is, with the sharpest, shortest rise in interest rates, servicing home loans has been an enormous drain on household finances.

As I’ve written for months, there is no silver bullet to solving the housing crisis. It’s a combination of making it easier to build new homes, increasing land supply and reducing construction costs.

This week I came across two terrific graphs which put our residential property issues in some global perspective. You know how much I love a good graph to distil a complex financial issue. I subscribe to a design newsletter called Voronoi which shared these two charts.

The first one ranks the global housing ‘bubble’ markets and how they performed in the last financial year. Dubai and Warsaw had accelerated housing growth performance, while Hong Kong and Paris saw their property markets deflate badly.

Australia’s biggest bubble property market has always been Sydney which showed only a very small rise in value as the big capital city markets slow.

The other interesting chart from Voronoi concerns first home buyer affordability and the years of work it takes to buy an apartment. Sydney sits in the top 10 in terms of years to pay for an apartment but we’re not alone as there are a surprising number of other cities where affordability is a big issue.

Could modular homes solve the housing crisis?

The housing crisis has left many Aussies scrambling for solutions. With property prices skyrocketing and supply shortages only becoming more rampant, both governments and developers are looking at modular homes as a potential answer.

State governments in New South Wales, Western Australia and Queensland are already investing in prefabricated builds to combat the crisis. Because modular homes are built offsite in factories and then transported and installed at the final location, they promise faster construction, cheaper building costs and a smaller environmental footprint.

But are they actually a decent investment? And most important of all: how easy is it to finance a modular home?

Why are modular homes on the up-and-up?

With home prices still rising plenty of industry experts are seeing modular homes as a potential game-changer. While traditional construction can take more than a year to complete, modular homes are usually constructed in a matter of weeks. Such break-neck speeds could help ease the housing shortage, which has been influenced by not just immigration but a lack of affordable housing stock.

State governments are embracing modular homes as part of the solution. These builds have already been deployed for social housing and emergency accommodation in places like Victoria for several years now. Because they’re built in a controlled environment, modular homes are also more sustainable - using fewer materials and generating less waste.

Are modular homes a good investment?

It’s a fair question. While they might be popular right now, will that still be the case 10 or 20 years down the track? It’s important to view modular homes as being not just primary residences but also potential investment properties. Many investors will be attracted by the lower build costs and faster project timelines, which means rental income can start flowing in sooner. A growing appetite for sustainable building practices in Australia also makes them more appealing to buyers, tenants and holidaymakers alike.

But they do have their limitations. Resale value is a concern, as the market still heavily favours traditional brick-and-mortar properties. Despite that, attitudes are likely to shift over the coming years, especially as more investment is poured into this space. If you’re looking for a property that’s both cost-effective and eco-friendly, modular homes are certainly worth a good, hard think.

Pros and cons of buying a modular home

Like any investment, you’ll want to weigh up all the advantages of modular homes against the drawbacks, including:

Pros:

• Quick to build: Offsite construction means faster assembly and fewer delays.

• Cheap: Typically much less expensive than buying or building a traditional home, both in terms of materials and labour.

• Sustainable: Uses fewer resources and pumps out less waste compared to on-site builds.

• Customisable: Modular builds are inherently flexible in their design options.

Cons:

• Financing challenges: Not all lenders are keen to fund non-traditional builds.

• Resale value: The market still favours traditional homes, and this is unlikely to change anytime soon.

• Land requirements: You’ll need to own a suitable block of land before you can even start looking at modular homes to build.

How does financing work for modular homes?

Financing a modular home isn’t something you have to manage all by yourself. While there might be a few extra hoops to jump through with the banks, you’re likely to find at least one lender out there who understands your vision for building a modular home.

Some buyers look to secure construction loans for their modular projects. This type of loan releases funds in ‘stages’ as the home is built. There’s also the option of owner-builder loans, where you fund each stage of the build and your lender reimburses you after the fact. It’s less risk for them, but you’ll need to be relatively flush with cash in the first place.

While it’s true that in the past many lenders were reluctant to approve loans for modular homes - mainly due to their unfamiliarity with the construction process – the amount that state governments are investing in modular housing means banks are starting to come around.

It’s still a good idea to shop around with both traditional banks and non-bank lenders to find the right financial solution. Some lenders will ‘bake in’ additional inspections or specific conditions into your contract before the loan is approved. But if you’re working with an experienced modular home builder and have the right approvals in place, you can expect the process to be fairly hassle-free.

If you’re in the market for a new home or an investment property, modular homes are definitely worth exploring. Given that governments are publicly backing these projects and more lenders are getting on board, now might be the perfect time to take advantage of this innovative way of building.

How Americans invest compared with Aussies

I was interested in this graph during the week which shows the assets held by American households and the overwhelming investment in equities. Investment in the sharemarket is now at record levels - at 48 per cent compared with 15 per cent in cash and 16 per cent in debt instruments. I assume the remaining 21 per cent is in property.

It made me wonder how different Australian household assets compared. You could argue every Australian is invested in the sharemarket through their superannuation.

When you think about it, our superannuation scheme is an extraordinary national savings scheme which underpins the strength of our economy. 11.5 per cent of every worker’s salary is compulsorily invested for their future every year.

Australian household net wealth reached a record $16.2 trillion in the March quarter, boosted by a record level of property assets of $11trillion as of March 31. Residential property accounted for approximately 67.9 per cent of net household wealth, up from 61.7 per cent in December 2020.

Households also held $1.46tn directly in equities, $1.73tn in cash and deposits, and $3.88tn in superannuation. The key driver of household wealth gains in recent years has been rising property prices.

Superannuation is now our second biggest asset but still way behind property.

And just an update on the performance of the so-called ‘Magnificent 7’ technology stocks driving the US sharemarket. They are just as dominant as ever.

The value of Apple, Microsoft, Meta (Facebook), Alphabet (Google), Nvidia, Amazon and Tesla now make up 28 per cent of the total value of the entire US sharemarket.