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Australian Dollar Could Gain From Chinese Central Bank Manoeuvres

Australian Dollar

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- Australian Dollar hammered to 4-month lows

- Possible respite could come from Pboc

- Depreciation of Yuan might benefit Aussie

The People’s Bank of China (PBoC) could inadvertently throw the Australian Dollar a life-line should they intervene agressively in the global currency market to prop up the value of the Yuan, according to analysts on the Thomson Reuters currency desk.

The Yuan has been steadily depreciating on increasing trade tensions between the U.S. and China, but the PBoC has intervened to stem the Yuan’s rout.

If authorities look to aggressively intervene further and support their currency - by actively selling Dollar’s to buy Yuan - it could benefit the Australian Dollar by 1) weakening the U.S. Dollar and 2) stabilising market sentiment towards China, which remains Australia's single most important trading partner.

“Indeed, AUD/USD bears should be especially concerned with Yuan weakness and how the PBoC might react,” says Christopher Romano, an analyst at Thomson Reuters. “Should the PBoC buoy the Yuan and trade tensions ease further, AUD/USD shorts could get squeezed.”

Short trades are bets a pair will fall, when they get “squeezed” it means the pair has surprisingly reversed against the market consensus bet and started going higher; the recovery can then gain impetus if more traders close out of the trade.

A momentary thawing in trade tensions on Tuesday was another reason Romano turned speculatively bullish the pair.

The U.S. Dollar has surged against the Yuan as a result of escalating trade tensions, because China exports more to the U.S. than the U.S. does to China, so a reduction in trade will hit demand for the Yuan the most.

The rally has resurrected fears USD/CNY may hit the 7.00 mark which stimulated a defence from the PBoC back in 2018 when tensions boiled over during the autumn.

China doesn't want its currency to appreciate too much as it will impact negatively on its exports by making them less price competitive; another fear is that above 7.00 USD/CNY could see massive and debilitating capital outflows from China.

“The central bank is leery that a 7.0000 break for USD/CNH could induce capital outflows from China. Recent USD/CNH approaches to 7.000 met stiff resistance and faced steady bear pressure thereafter,” says Romano.

USD CNY exchange rate

The Australian Dollar has fallen to 4-month lows as a result of a combination of trade war fears affecting its largest trading neighbour China and domestic headwinds, which worsened after data on Wednesday showed the wage price index missing expectations of 0.6% in April and coming out at only 0.5%.

The labour market had been one of the main pillars of strength of the Australian economy. Its resilience is one of the main reasons the Reserve Bank of Australia (RBA) has not cut interest rates yet despite a weakening housing market and low inflation - therefore when labour market data is poor it is a very bad sign and disproportionately weighs on the Australian Dollar.

From a technical perspective, the current trend is definitely down for AUD/USD but there are technical signs a broader multi-year bottom may be in place, suggesting that eventually, things might get better for the pair.

AUD vs USD weekly chart

The pin-bar lows which formed at the start of January are a possible sign of a long-term low for the pair and may very well mark a key bottom.

The shape of the price action around the pin-bar also suggests the outline of a possible inverse head and shoulders or multiple bottom pattern. The recent sell-off has brought that hypothesis into question after breaking below the 0.7003 March lows, but it is still a possibility.

Overall we see a break below the January lows at 0.6745 as highly unlikely.

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