AUD/USD Intermarket: 2-yr bond yield spread contradicts rally

Two-year bond yields closely track short-term interest rate/inflation expectations and the differential is often a determinant of exchange rate.

Post Brexit, the two-year Australia government bond yield has dropped 20 basis points, while the 2-yr treasury yield has gained about 13 basis points.

The 2-yr AU-US yield spread stood at 1.03 on July 26 and currently stands at 0.708. During the same time frame, AUD/USD rallied from 0.73 to 0.77.

Hence, going by the yield spread the rally in AUD/USD appears unsustainable. However, expectations are gathering pace that the Fed would not raise rates any time soon and that may have helped AUD/USD rally. Furthermore, rally in gold has helped AUD as well.

Nevertheless, traders should keep in mind the yield differential is in favor of the US dollar.