AUD: 'Cheap' or just one tweet away from a tumble? - Westpac

Robert Rennie, Research Analyst at Westpac, notes that the A$ hit 7 month lows versus the US$ late last year, 6 month lows versus the Canadian dollar and 3 ½ month lows versus the NZD and on the RBA TWI measure and that leaves the A$ looking increasingly ‘cheap’ on a range of crosses to us even after a rebound in the last few days.

Key Quotes

“So will the A$ continue falling? We see three reasons to support our less downbeat view. It is cheap on a range of fitted fair value models; the beneficial commodity story is underpriced and global/ Asian growth accelerated into the end of 2016.”

“We see risks of a push above 0.74 (50dma at 0.7420) and possibly towards 0.75 this quarter (100 and 200dma at 0.7505/10). However, beyond that we have strong doubts. Westpac is forecasting two rate hikes from the Fed this year and no change from the RBA; the Fed 'dot plots' suggested risks of more. Thus, as we move through 2017, interest rate differentials will likely be increasingly less supportive for the A$. While the positive commodity story is under-priced, commodity prices will soften as 2017 progresses. Thus as we move through the year, our fair value models will be falling.”

“However, the biggest risk of all appears to be the geopolitical recession or near vacuum that we may face in 2017. The combination of a likely much more inward looking US administration; a UK administration that will spend significant time agonising over Brexit;  a Europe forced to hold its breath through Dutch, French and German elections; and China focussed on the all-important 19th Party Congress in the fall arguably renders the worlds geopolitical architecture volatile at best.”

“Throw in increased risks surrounding Russia’s position in the Middle East, North Korean risks etc. and it becomes easy to understand why the A$ will remain a 'go to liquid risk proxy'. Then overlay a keen sense that we may be just one tweet away from a China/ US trade spat and we would argue that strength in the A$ should be strongly capped by 0.7450/ 0.75.”

“The flipside of this is the risk that President Trump forges a more unilateral path towards geopolitics allowing the benefits of US fiscal policy and super low rates elsewhere to boost global reflation and thus the A$. With Obama’s last official speech Tuesday next week/ Trump’s first general news conference Wednesday, next week should give us a clearer sense of whether the A$ really is cheap to fair value, or just one tweet away from another tumble. Whatever the outcome, if we are correct and AUD is cheap, gains should be firmly capped closer to 0.75.”