Superannuation funds have raised their hedge ratios on international equities from 20.6 per cent to 22.2 per cent in the second quarter, signalling an emerging upside risk for the Australian dollar, according to Deutsche Bank’s Lachlan Dynan, macro strategist.
“Early signs of an upside risk to AUD materialising? In recent months we’d largely seen a rise in super funds hedge ratios as an upside risk to AUD spot, rather than central to the view,” Dynan wrote in his latest report.
He noted that the increase follows a period where hedge ratios had been steadily declining and suggests funds may now be responding more to recent market signals than long-term historical averages.
Dynan highlighted that the AUD’s correlation with US equities has been less pronounced and prolonged than for other G10 peers, and regulatory incentives had historically limited large hedging moves.
FX swap activity had also indicated no material change in hedging behaviour for AUD-based investors, consistent with the modest size of the recent increase.
Nonetheless, the uptick is notable, Dynan said, adding that it may “increase the likelihood that the upside risk to AUD is materialising”.
“The moderate rise in hedge ratios in Q2 would suggest super funds have indeed taken some signal from recent correlation changes, rather than leaning purely on longer-term windows,” Dynan said, adding that this move raises the odds further rises will take place over the remainder of the year.
“With correlations remaining in flux in recent months and still notably lower than recent years, this would seem to increase the risk that we continue to see hedge ratio rises through Q3 and Q4, bolstering our view that AUD/USD should reach 0.68 by year-end,” he added.
Short- and medium-term windows – spanning one to three years – point to rising optimal hedge ratios, while longer-term windows of 10 years suggest hedge ratios should be marginally lower compared with a year ago.
Historically, super funds have aligned more closely with long-term measures, highlighting that funds are now adopting a more dynamic approach to managing currency risk.
The move coincides with broader structural shifts affecting the AUD/USD.
Dynan noted that the AUD/USD’ commodity beta may be structurally lower, reflecting the US’ transition to a net oil and gas exporter. At the same time, Australia has seen a significant decline in net liabilities, and the AUD is no longer a high-yielding currency.
“Each of these being fundamental reasons why AUD/USD could perhaps be less risk sensitive than in years past,” he said.
Looking ahead, further increases in hedge ratios could amplify upward pressure on the AUD.
“Whether it plays out more fully will depend on the capacity for further rises in ratios,” Dynan said, adding that correlations remain in flux and funds face challenging decisions about how much weight to give recent changes relative to historical norms.
