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Australian Dollar Recovery Looks Likely in the Weeks Ahead

By , Currency Strategist
21 December 2013 05:18 GMT
Australian_Dollar_Recovery_Looks_Likely_in_the_Weeks_Ahead_body_audusd.png, Australian Dollar Recovery Looks Likely in the Weeks Ahead

Fundamental Forecast for Australian Dollar: Bullish

  • Improving Domestic, Chinese News Flow Limits Scope for RBA Rate Cut Bets
  • Correction in US Yields on Fading Fed Policy Uncertainty May Help the Aussie
  • Help Pin-Point the Turning Point for the Australian Dollar with DailyFX SSI

The fundamental argument for Australian Dollar weakness has become decidedly flimsy. Traders remain positioned for weakness however, with the latest data from the CFTC showing speculative bets are nearing the record-high net short level set in August once again. Absent new evidence to advance the case against the Australian unit, this opens the door for a period of profit-taking to drive the currency higher as the calendar turns to 2014.

The outlook for Australian monetary policy has been broadly stable over the past two months, with a measure of priced-in expectations from Credit Suisse showing investors are betting on standstill over the coming 12 months. Meanwhile, data compiled by Citigroup reveals that Australian economic news-flow has increasingly improved relative to expectations since mid-October. At worst, this leaves little room to build out rate cut bets.

Turning to external forces, economic developments in China are an important consideration. The East Asian giant is Australia’s largest trading partner and a major driver of demand for the country’s pivotal mining sector. In fact, the bulk of the Aussie’s down trend in 2013 tracked declining Chinese GDP growth expectations. On this front, things appear to be supportive as well. Chinese economic data began to perk up in December and median 2014 growth expectations were revised higher accordingly having stabilized in September (according to a Bloomberg survey of economists).

That leaves the US monetary policy outlook: the Aussie has been closely anchored to the path of US treasury yields, declining in lock-step with an increase in US borrowing costs reflective of speculation about Fed stimulus reduction. As a higher-yielding currency, the Australian unit found itself on the wrong end of liquidation across the spectrum of trades dependent upon cheap USD funding secured by the Fed’s QE efforts.

Ben Bernanke and company finally moved to reduce asset purchases in December, slashing MBS and Treasury bond purchases by $5 billion each and hinting that pace is likely to continue absent significant changes in the economic outlook. That reduces uncertainty to a significant extent, which raises an important question: to what extent have the markets priced in the Fed’s actions?

The 10-year Treasury yield is ending 2013 just below a 2-year high at 3 percent, hinting a significant tightening has taken place already. Meanwhile, traders are the most net-short futures tracking the 10-year note in 19 months. That seems to leave room for a correction before the larger structural advance resumes as ambiguity surrounding Fed taper timing is flushed out, helping the Aussie upward. - IS

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21 December 2013 05:18 GMT