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AUDUSD: Australian Dollar US Dollar Exchange Rate Forecast

AUDUSD: Australian Dollar US Dollar Exchange Rate Forecast

2011-07-07 00:11:00
Joel Kruger, David Rodriguez, Ilya Spivak,
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Australian Dollar / US Dollar Technical Forecast

Weekly Chart

AUDUSD_Australian_Dollar_US_Dollar_Exchange_Rate_Forecast_body_EURJULY.png, AUDUSD: Australian Dollar US Dollar Exchange Rate Forecast

Prepared by Joel Kruger

There is no denying the intensity of this uptrend which has recently resulted in a break to fresh post-float record highs above 1.1000. However, there are signs of a shorter-term top forming, and given the overextended technical readings, we would not at all be surprised to see a more significant corrective pullback towards previous resistance now turned support in the 1.0200’s at a minimum. Any rallies should therefore be well capped below 1.0800 on a weekly close basis, with only a weekly close back above this figure to give reason for concern.

Australian Dollar / US Dollar Interest Rate Forecast

Currency, Central Bank

Australian Dollar,Reserve Bank of Australia

US Dollar, US Federal Reserve

Net AUDUSD Spread

Signal

1-Year Expectations(Basis Points)

(4)

16

(20)

Bearish

Yield in 1 Year(Percent)

4.71

0.41

4.30

Bullish

AUDUSD_Australian_Dollar_US_Dollar_Exchange_Rate_Forecast_body_Picture_6.png, AUDUSD: Australian Dollar US Dollar Exchange Rate Forecast

Australian Dollar / US Dollar Interest Rate Trading Bias: Bullish

The Australian Dollar continues to benefit from the highest short-term interest rate of any G10 currency, but Overnight Index Swaps show that its yield advantage over the US Dollar is likely to stay stable or shrink through the coming 12 months. Of course, the Aussie Dollar will still command a substantial yield advantage over its US namesake within that stretch, and it is important not to overstate the significance of rate forecasts on AUDUSD price action.

Investors will often pour into highly speculative bets on high-yielding currencies when the risk of substantial exchange rate moves seems remote. That is to say: when the sun is shining and all is well with the Dow Jones Industrial Average and other key ‘risk’ barometers, the high-yielding AUD is an attractive bet against the low-yielding US Dollar. It will be critical to watch whether the Dow Jones Industrial Average and other key risk barometers can once again challenge the highs seen through the first half of the year.

Australian Dollar / US Dollar Valuation Forecast

AUDUSD Valuation Bias: Bearish

AUDUSD_Australian_Dollar_US_Dollar_Exchange_Rate_Forecast_body_06072011_AUD.png, AUDUSD: Australian Dollar US Dollar Exchange Rate Forecast

The Australian Dollar remains the most overvalued major currency against its US namesake. Indeed, prices are trading at a hefty 35.3 percent premium to PPP-implied fair value. A snap-back looks increasingly imminent as the Federal Reserve allows QE2 to expire – opening the door for a rise in US borrowing costs – while the RBA has solidified itself at neutral for the remainder of the year.

The narrowing of yield spreads that this implies points the way lower, making for an attractive selling opportunity in the works. Continued slowdown in China – Australia’s top trading partner – further reinforces this trajectory as Beijing struggles to gently put the brakes on its buoyant economy to tame inflation. With that in mind, the timing of a reversal remains tricky as it remains to be seen how robust of an increase in US yields will actually take place after QE2 expires. Furthermore, the Aussie’s sensitivity to risk trends can make for choppy trade as the markets grapple with the Euro Zone debt crisis.

What is Purchasing Power Parity?

One of the oldest and most basic fundamental approaches to determining the “fair” exchange rate of one currency to another relies on the concept of Purchasing Power Parity. This approach says that an identical product should cost the same from one country to another, with the only difference in the price tag accounted for by the exchange rate. For example, if a pencil costs €1 in Europe and $1.20 in the US, the “fair” EURUSD exchange rate should be 1.20. For our purposes, we will use the PPP values provided annually by Bloomberg. We compare these values to current market rates to determine how much each currency is under- or over-valued against the US Dollar.

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