HESTA, one of Australia’s largest pension funds, has been increasing the hedging of its international equities allocation and raising its exposure to the Australian dollar on the view that the currency has been undervalued.
Jeff Brunton, head of portfolio management at HESTA, said the fund’s long-term valuation models have signalled for some time that the Australian dollar sits below its fair value. HESTA manages A$100 billion in total funds.
Brunton explained the rationale for heavier hedging in a phone interview: "We’re long-term investors and we are quite valuation driven and our long-run valuation models for the Australian dollar have been suggesting for quite a while now that it has been undervalued."
He outlined how the hedging works in practice: "If we’re holding international equities and the Australian dollar is rising, the value in Australian dollars and those international equities would be falling. But the hedge protects the portfolio in that environment. And we’ve had more Australian dollars and less foreign currency compared to our long-term settings."
HESTA is not alone. The fund is the second major Australian superannuation fund to lift its international equity hedging recently, following Australia’s second-largest fund, Australian Retirement Trust, which said it has also increased its hedging strategy lately.
Analysts have noted that increased buying of Australian dollars by pension funds to hedge international equity exposures could add upward pressure on the currency. The Australian dollar gained 4.3% in the previous month to trade at its highest level in three years and has gained almost another 1% in February to date.
The Reserve Bank of Australia last week raised the official cash rate by 25 basis points to 3.85%, one of the few central banks still increasing rates while most major economies are either keeping policy rates on hold or preparing to cut.
HESTA reported it holds A$23.45 billion in international shares. Brunton said the fund has been running an underweight position in foreign currency versus its long-term plan: "We’ve been underweight foreign currency versus our long-term plan. And we think we’ve probably been underweight relative to how our peers would be managing foreign currency."
Market participants have been anticipating a stronger Australian dollar for some time. The trade surplus is widening as commodity prices have climbed. Benchmark 10-year government bond yields in Australia are the highest in the G10, and at the three-year tenor the yield advantage over the United States is the widest in nearly a decade.
Speculative positions in the Australian dollar shifted late last month, moving from a small net short to a net long stance among traders. The article uses an indicative exchange rate of $1 = 1.4255 Australian dollars.
Summary:
HESTA has increased hedging on its international equity portfolio and boosted holdings of the Australian dollar, citing valuation models that show the AUD has been undervalued. The move aligns with recent Reserve Bank of Australia rate hikes and rising commodity-driven fundamentals that have supported the currency.