Weakness in domestic currency offers a cushion
Most of the revenues for resource exporters are in US dollars, while costs are in domestic currencies. Any weakness in domestic currency offers a cushion to companies in terms of cost benefits. Let’s take a look at how depreciating local currencies are helping iron ore miners.
Australian dollar depreciation
Recently, the Australian dollar touched a four-year low against the US dollar due to poor economic data. Data for the United States have been comparatively stronger. The Reserve Bank of Australia (or RBA) still thinks the Australian dollar is overvalued. It expects a further decline in local currency, particularly given the further declines in key commodities over the course of this year.
The RBA believes the exchange rate is offering less assistance than normally expected in achieving balanced growth in the economy. All other things being equal, a further depreciation of the Australian dollar would tend to support demand for Australian producers such as BHP Billiton (BHP), Rio Tinto (RIO), and Fortescue Metals Group (FSUGY).
Brazilian real depreciation
The same logic applies to Brazil. So Vale S.A. (VALE) should benefit from depreciation of the Brazilian real compared to the US dollar. In a recent presentation, Vale showed how the revision of the exchange rate of the real US dollar from 2.00 to 2.60 will help it achieve cost and capital expenditure (or capex) reduction.
Compared to the average price in 3Q14, the Australian dollar was down 7.6%. The Brazilian real was down 10.7% in 4Q14. Although iron ore prices have fallen drastically in US dollars, the hit in terms of producing countries’ depreciating local currencies has been less pronounced.
The SPDR S&P Metals and Mining ETF (XME) is a good way to get exposure to this sector without picking individual companies.