AUD: Vertigo above 77 - Westpac

Sean Callow, Research Analyst at Westpac, notes that the Aussie dollar has received plenty of positive news this week and the most eye-catching has been a further lurch higher in key commodity prices, which had already made strong gains since June.

Key Quotes

“The price of iron ore on the Dalian exchange (Jan17) is up almost 10% so far this week. Base metals also jumped sharply in Chinese futures trade. The price of premium coking coal shipments leaving Australia has fallen just once since early August. In this time it has risen 148%.

This points to substantial further narrowing of Australia’s trade deficits in the months ahead, an acceleration in nominal GDP growth and improvement in both the federal and state budget positions. All this should be bullish for AUD, even before we consider how the RBA might view the commodity price surge, beyond conceding that it means a stronger Aussie would have some fundamental backing.

Inflation remains the key release for the RBA and this week’s Q3 data was another source of fuel for the Aussie. Indeed, the sharpest rise in AUD/USD this week was in response to the above-consensus reading on headline inflation, up from just 1.0% y/y in Q2 (a low since 1999) to 1.3% y/y. While core inflation remains a muted 1.5% y/y, it is very hard to see why the RBA would use precious ammunition in cutting rates this year. Market pricing for Westpac’s view of a steady hand into 2017 is around 95%.

So commodity prices are surging and there is very little risk of a rate cut. Yet AUD/USD is lower on the week. Positioning is one headwind. The chart shows how speculative accounts in futures markets have been buying more AUD in recent weeks, to their most bullish stance since May. The Aussie could be running out of fresh buyers. There is also the strength of the US dollar. Pricing for a Dec Fed rate hike is up to 67%, boosting USD against a wide range of currencies. This is likely to persist in the week ahead, meaning that 0.77 remains very difficult for AUD.”