Australian Dollar "Will Remain Exposed to New Weakness" says Intesa Sanpaolo

• GBP/AUD, EUR/AUD and AUD/USD forecasts
• AUD weakness likely through year-end
• But 2023 a year of recovery

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The Australian Dollar is forecast to undergo further near-term weakness, but a broader recovery is likely to get underway in 2023 according to new research.

One of Europe's largest lenders and merchant banker says they are pencilling further weakness in the Australian Dollar against the Dollar, Euro and Pound but a broader global recovery in 2023 should position the Aussie for a recovery.

Analysts at Intesa Sanpaolo says they expect the Australian dollar caught between rate hikes and the evolution of the global cycle at least until the end of the year.

"The Australian dollar, after getting off to a generally favourable start to the year and rising against the US dollar from AUD/USD 0.69 to 0.76 between January and April, then mostly depreciated, marking lows in October," says Asmara Jamaleh, economist at Intesa Sanpaolo.

The Pound to Australian Dollar exchange rate (GBP/AUD) has also responded by pushing higher amidst AUD weakness, recovering from September lows to today's 1.7687.

Intesa Sanpaolo says there are two key reasons to expect near-term Aussie Dollar weakness to persist:

1) The effects of the deterioration of the global picture on the Australian dollar are amplified

2) The RBA, while keeping the fight against "too elevated" inflation as its top priority, has acknowledged it wants to preserve domestic growth, opting to switch to smaller rate hikes before the other major central banks.

The Reserve Bank of Australia (RBA) downshifted its rate-hiking regime to 25 basis points in October and November, becoming one of the first central banks to signal it was entering the latter stage of its cycle.

This in turn constraints Australian bond yields relative to nations where central banks are proceeding with more aggressive hikes.

The impact on AUD is described in the following chart:

Above: "AUD/USD: unfavourable evolution of yield spreads" - Intesa Sanpaolo. To better time your payment requirements, consider setting a free FX rate alert here.

Therefore, further RBA reticence to raise interest rates relative to peers would likely weigh on the currency.

It is noted that both the U.S. Federal Reserve and Bank of England are expected by markets to 'out hike' the RBA over coming months, offering AUD/USD downside and GBP/AUD upside.

"In the near term, therefore, the AUD will remain exposed to new weakness, but should recover gradually next year, although upside still seems limited," says Jamaleh.

The global economy and commodity prices are key determinants of recent AUD underperformance and should shape the medium-term outlook, says Intesa Sanpaolo.

Expectations for a recovery in global growth in 2023 should therefore assist a stronger Australian Dollar.

"The Australian dollar should gradually recover on the course of next year, in reflection of the expected interruption of the US dollar’s uptrend, a generally more favourable scenario for commodities, and the gradual expected decline of inflation at the domestic level," says Jamaleh.

Key to the market's fortunes will be China and the decision by authorities there to unwind their zero-Covid policy.

The Aussie Dollar rallied last week amidst rumours that a shift towards a more lenient stance towards Covid was underway.

However, no official confirmation was ever provided, suggesting this is a story for later months.

Goldman Sachs' China economists believe recent headlines simply mark the start of a multi-month preparation period for reopening, and so have maintained their current base case of 2Q23 reopening, once the winter flu season has passed.

Currency analysts at the Wall Street bank say they would expect the USD TWI to depreciate by up to 3 p.p. as China reopens, as Asian economies benefit, and broader markets trade more ‘risk-on’.

This would assist the Australian Dollar in a more sustained recovery, given Australia's 'high beta' to China.

Australian Dollar Forecasts

Intesa Sanpaolo's Aussie Dollar forecast profile sees AUD/USD at 0.61, 0.63, 0.67 and 0.72 on a 1m, 3m, 6m and 12m horizon.

Their EUR/AUD profile is 1.51, 1.49, 1.48 and 1.47 for the same time period.

There is no GBP/AUD forecast offered, although we can calculate this using their AUD/USD and GBP/USD forecasts.

With a GBP/USD forecast profile of 1.10, 1.08, 1.16 and 1.22 the resultant GBP/AUD targets are therefore: 1.80, 1.71, 1.73 and 1.70.

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