Australian Dollar Outlook:
- After hitting fresh yearly highs earlier in the day, both AUD/JPY and AUD/USD rates have turned lower, with potential bearish topping candlesticks taking shape.
- The spike in developed market sovereign bond yields, but US Treasury yields in particular, has spooked investors, offering a sober reason for a pause in the recent unbridled optimism.
- According to the IG Client Sentiment Index, AUD/JPY has a bearish bias while AUD/USD has a bullish bias in the near-term.
Australian Dollar Follows Risk Down
The Australian Dollar has been on a tear over the past two weeks, but the bullish jubilance that has defined markets may be coming to a pause. The spike in developed market sovereign bond yields, but US Treasury yields in particular, has spooked investors, offering a sober reason for a pause in the recent unbridled optimism.
A key factor is that the US Treasury 10-year yield now exceeds the S&P 500 dividend yield. While not as important to asset allocation decisions as the S&P 500 earning yield, it is a key threshold that, now crossed, forces asset managers to reposition their portfolios. To an extent, the thinking goes, why take the additional risk in stocks when I get can a similar total return (capital appreciation plus yields) from bonds?
As asset allocation decisions are made in the wake of the recent bond market moves, it stands to reason that this episode may last than more a few days, thereby preventing a bonafide opportunity for a meaningful pullback in the major AUD-crosses. After hitting fresh yearly highs earlier in the day, both AUD/JPY and AUD/USD rates have turned lower, with potential bearish topping candlesticks taking shape.
AUD/USD RATE TECHNICAL ANALYSIS: DAILY CHART (February 2020 to February 2021) (CHART 1)
AUD/USD’s rally is on pause despite hitting a fresh yearly high today as a bearish key reversal takes shape: a new high was formed relative to yesterday; but today’s close is on track to come in below yesterday’s low. Today’s price action, in effect, is a daily bearish engulfing bar at the top of a bullish trend. Fundamental reasons (bond yields) aside, this price action suggests that AUD/USD rates have reached a near-term inflection point that could give way to a brief reversal lower.
The pause has occurred upon reaching the 50% Fibonacci extension of the move measured from the March 2020 low to September 2020 high, drawn to the October 2020 low. If this sounds familiar, it’s because AUD/USD’s rally paused when it reached the 38.2% Fibonacci extension of the same range back in early-January. Like then, a move into a key extension might offer a profit taking point for traders already long. An opportunity to reenter long positions may emerge after a brief pullback; AUD/USD rates can’t fall below the daily 21-EMA for this perspective to remain valid.
IG Client Sentiment Index: AUD/USD RATE Forecast (February 25, 2021) (Chart 2)
AUD/USD: Retail trader data shows 35.83% of traders are net-long with the ratio of traders short to long at 1.79 to 1. The number of traders net-long is 11.47% lower than yesterday and 13.03% lower from last week, while the number of traders net-short is 1.44% lower than yesterday and 0.79% lower from last week.
We typically take a contrarian view to crowd sentiment, and the fact traders are net-short suggests AUD/USD prices may continue to rise.
Traders are further net-short than yesterday and last week, and the combination of current sentiment and recent changes gives us a stronger AUD/USD-bullish contrarian trading bias.
AUD/JPY RATE TECHNICAL ANALYSIS: DAILY CHART (February 2020 to February 2021) (CHART 3)
AUD/JPY rates are working on a daily bearish piercing candle, a less bearish iteration of price action experienced by AUD/USD rates. Nevertheless, this too offers reason for pause. But the Japanese Yen is no far of rising interest rates, as the low yielding JGBs holding back the Yen during times of improving risk-appetite around buoyant global growth prospects (FX revolves around interest rate differentials, after all). If there is a pullback in the major AUD-crosses, AUD/JPY rates appear less likely to suffer in the current environment than AUD/USD rates. A pullback into the daily EMA envelope over the coming days would not be unexpected.
IG Client Sentiment Index: AUD/JPY Rate Forecast (February 25, 2021) (Chart 4)
AUD/JPY: Retail trader data shows 39.15% of traders are net-long with the ratio of traders short to long at 1.55 to 1. The number of traders net-long is 4.89% higher than yesterday and 11.06% lower from last week, while the number of traders net-short is 0.99% lower than yesterday and 16.67% lower from last week.
We typically take a contrarian view to crowd sentiment, and the fact traders are net-short suggests AUD/JPY prices may continue to rise.
Yet traders are less net-short than yesterday and compared with last week. Recent changes in sentiment warn that the current AUD/JPY price trend may soon reverse lower despite the fact traders remain net-short.
--- Written by Christopher Vecchio, CFA, Senior Currency Strategist
