Australian Dollar Outlook Bearish Amid US Dollar Surge and China Woes

Australian Dollar Fundamental Forecast: Bearish

• The Australian Dollar plummeted against the US Dollar and looks primed for more losses
• China’s economic headwinds are mounting ahead of expected interest rate cuts
• Traders increased short bets against AUD as the Fed looks ready to temper pivot bets

The Australian Dollar plummeted more than 3% against the US Dollar over the past week, dragging AUD/USD to its lowest level since July 21. A safe-haven fueled US Dollar rally inspired by waning Fed pivot bets encouraged selling, but AUD fell against most of its major peers, including the British Pound, Euro and Japanese Yen.

A July employment report offered mixed signals. Australia lost 40,900 jobs last month, but its unemployment rate unexpectedly fell to 3.4%. Wages rose 2.6% in the second quarter from a year prior, missing the 2.7% Blomberg consensus but rising from 2.4%. The week ahead will see updated purchasing managers’ indexes for the manufacturing and services sectors. The preliminary data for August from S&P may influence rate hike bets. The RBA hiked its cash rate to 1.85% on August 2. Since then, rate hike bets for the rest of 2022 have increased slightly—shown in the chart below.

A currency typically benefits from higher rates. But currency traders are betting against the Australian Dollar. According to the CFTC’s Commitments of Traders (COT) report, released Friday, net positioning on AUD fell to -59,248. That is the most net short position since early March. A new lower-low from July provides an enticing target for shorts.

Traders are likely betting against the Australian Dollar for two reasons. First, the deteriorating Chinese economy is going to struggle to recover. The People’s Bank of China (PBOC) is expected to cut interest rates on Monday, but it may fail to increase credit growth. The central bank surprised markets by cutting its one-year medium-term lending facility rate. Markets saw the move as a potential sign of panic. Along with sporadic Covid lockdowns, a heatwave has forced several manufacturing hubs to close factories in an attempt to soften energy demand.

The second is an unwinding of the view that the Federal Reserve will start cutting rates by next summer. FOMC voters James Bullard and Esther George were the latest members to push back on that narrative. US stocks plummeted Friday as traders repositioned ahead of Jackson Hole and US PCE inflation data. Fighting the Fed works until the Fed fights back. And Jerome Powell may deliver a knockout punch soon. That would bode poorly for an Australian Dollar already facing increasing headwinds from its largest trading partner.

--- Written by Thomas Westwater, Analyst for DailyFX.com

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