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Australian Dollar Rebound Threatened by Heavy US Event Risk
Fundamental Forecast for Australian Dollar: Neutral
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For the past two weeks, we’ve argued that the Australian Dollar appears primed to launch a recovery. We noted that traders were already pricing in a strong possibility of an RBA interest rate cut in August – leaving relatively room for deterioration in the policy outlook – while speculative net short positioning was stabilizing having hit a record high (according to the CFTC’s COT report). This made for an environment where the Aussie appeared to be disproportionately sensitive to counter-trend news as the intensity of recent selling discouraged new capital from chasing the decline while existing shorts became increasingly compelled to book profits.
The markets have responded as expected. The Aussie has now completed the first set of back-to-back weekly gains since mid-March, adding a cumulative 2.2 percent against its US namesake. Looking ahead, the situation is relatively unchanged on the domestic front. The latest set of COT figures shows net speculative shorts remain near record highs but the pace of weekly growth has withered dramatically, reinforcing the idea that the selloff is running dry on capital inflows needed to perpetuate it. The priced-in probability of an RBA interest rate cut at next month’s policy meeting remains elevated at 72 percent. China’s official Manufacturing PMI print headlines the economic calendar, with a drop back below the 50 “boom/bust” threshold expected, but the sting of such an outcome may prove limited having been telegraphed by last week’s disappointment from an analogous release from HSBC.
The coast is far from clear however as a packed US economic calendar threatens to overshadow Aussie-specific considerations and pull the currency into the “taper on/off” debate surrounding the direction of Federal Reserve policy. Investors have been scrambling to handicap the timing and size of the central bank’s move to reduce its monthly asset purchases (currently at $85 billion) since the June FOMC meeting, sparking aggressive volatility across the spectrum of financial markets. The week ahead brings a perfect storm of fundamental event risk to inform the debate: US GDP, ISM and NFP as well as the monthly FOMC policy announcement are all on tap.
The Fed meeting clearly speaks most directly to monetary policy speculation.Markets will be watching for any changes in the central bank’s forward guidance (like setting a lower bound on inflation to match the upper one or a lowering of the jobless rate threshold) that highlight policymakers’ intent to remain accommodative, underscoring the message that "tapering" and "tightening" are not the same thing. Such a scenario is likely to be perceived as relatively dovish, boosting risk appetite and helping the Aussie Dollar higher. The absence of at least a rhetorical dovish shift in the Fed’s policy statement and/or a strong showing on the US data front may boost bets on a near-term cutback in QE however, undermining sentiment and likely sinking the Australian unit.
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