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Australian Dollar Primed to Move on RBA, Swinging Risk Appetite

Australian Dollar Primed to Move on RBA, Swinging Risk Appetite

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  • Australian Dollar up amid recovery in market-wide risk appetite
  • Investors seemingly angle for ‘soft landing’ on growth, inflation
  • RBA policy decision, US CPI report in focus in the week ahead

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The Australian Dollar has mounted a spirited recovery in the back half of May, erasing more than half of the prior month’s decline. The upturn came alongside recovery in market-wide risk appetite, which offered outsized support to the sentiment-geared commodity bloc currencies.

Recession fears gripped markets through most of the second quarter. Economists marked down growth projections, stock markets slid, and the US Dollar reveled in liquidity demand. Fed rate hike bets moderated against this backdrop, with the futures-implied 2023 outlook shedding a hefty 62bps.

A rethink began to take hold mid-May. Steadying economic data flow – particularly out of the cyclically-sensitive emerging markets – seemed to suggest that growth fears may be overdone. PMI activity surveys agreed, reflecting an almost year-long slowdown but putting current performance in line with the pre-pandemic trend.

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Moderating perspectives on recession risk did not translate into a rebuild of Fed rate hike projections trimmed back amid the shakeout. Inflation expectations implied in bond markets stayed anchored near three-month lows as investors’ mood improved,having slid sharply when sentiment soured.

In all, the markets seemed to reckon that the Fed’s fire-and-fury stance this year will succeed in containing runaway price growth and allow for a reprieve in 2023, all the while keeping the degree of economic deceleration tolerable. In essence, traders embraced the proverbial “soft landing” scenario.

US CPI data will probably take top billing as this narrative developsin the week ahead. The core inflation rate excluding volatile food and energy prices is expected to tick down to 5.9 percent year-on-year, the lowest since December. Meanwhile, a gauge of consumer confidence is seen rebounding from a 10-year low.

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Local considerations will come into play alongside the macro-level story as the RBA delivers a monetary policy update. Markets have priced in at least a 25bps rate hike, and some observers are calling for a 40bps rise to bring the target cash rate to a more familiar-looking 0.75 percent.

The RBA rate hike path priced in for the coming 12 months has steeped considerably in recent weeks as medium-term domestic inflation expectations swung toward the top of the 2022 range even as PMI data flagged the weakest growth in four months.

How policymakers weigh up these conflicting cues may prove pivotal. If the central bank signals that its priority is proactively beating back inflation and thereby validates the latest hawkish shift in the baseline market view, the Aussie seems likely to rally.

On the other hand, the RBA may telegraph a more sanguine disposition. This is as it ponders the Fed’s heavy-handed plans for this year – which have already raised global borrowing costs alongside those in the US and seem likely to continue to do so – alongside cooling economic performance. AUD might slip in this case.


--- Written by Ilya Spivak, Head Strategist, APAC for DailyFX

To contact Ilya, use the comments section below or @IlyaSpivak on Twitter

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DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.