Prime Minister Turnbull’s decision to load the chamber to pull the trigger for a double dissolution election might be a politically interesting event, but from a strategist point of view, it’s adding to the ‘Perfect Storm’ we see facing the AUD.
Bringing forward the May Budget to coincide with the May Reserve Bank of Australia (RBA) meeting has seen the interbank markets pricing a May rate cut at just 24.6%, down from 35% just before Turnbull’s announcement yesterday.
With the May Budget taking the May RBA meeting out of the equation, we look to June and December meetings, which was when the market was pricing in the strongest chance of a rate cut.
June has moved from a chance of 57.6% a month ago to 33% at the close of business yesterday. December has moved from 77.9% a month ago to 62% now. Now time value is also in play for the December price, meaning the likelihood of a cut is actually under 50% for most of 2016.
AUD/USD retested 76c in the US session, hitting 76.2c as expectations of a rate cut in Australia are slashed.
Expectations of a rate cut were one of the only headwinds to be suppressing the AUD in 2016. With the election now putting the RBA slightly to one side, the AUD is likely to move higher still. With the Fed stepping back from rate hikes and Europe and Japan holding the line on negative rates, it will be with a broad brush that the AUD moves positively against.
AUD’s ‘Perfect Storm’ rationale
Australian bond yields that are more than 250 basis points above rates in Europe, Japan and North America are a clear carry trade opportunity. The risk to the trade is back stopped by:
- A sovereign nation with a AAA credit rating
- A federal budget in better shape than forecasted (bond buying may ramp up after the May Budget)
Country GDP growth at the top end of the developed world - Commodities cycle forming a base, seeing upside pressure in AUD having being sold on expectations of a commodities collapse
- China’s impossibility of falling, and a call on GDP reaching 6.5%. This will increase demand for industrial metals which puts further upside pressure on AUD
- The RBA unlikely to move rates in either direction in 2016
An Australian election and a May budget will keep the RBA out of the market until at least 5 July at best if it is to move - The RBA may want an AUD at the lower end of 70 cents, and some even want it at 65 cents. However, in the coming three to four months, it is hard to see the AUD finding anything other than support when it weakens slightly.
Evan Lucas
Market Analyst, IG.COM
