Australian Dollar Yields Drive "Nagging Weakness" but AUD/USD Tipped as Buy

"If Aussie rates start flicking higher, AUD could be at 0.6900 in a blink" - Spectra Markets.

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The Australian Dollar was a straggler among major currencies this month due partly to the handicap of comparatively low bond yields but Spectra Markets is tipping AUD/USD as a buy in anticipation of a recovery over the coming weeks.

Australia's Dollar was a middling performer for the week by Friday but close to the bottom of the major currency bucket for the month and year-to-date after lagging behind most currencies in the broad G20 grouping through March. 

Only the Turkish Lira, Korean Won, South African Rand and Norwegian Krone have underperformed the Australian Dollar this year in what some view as a symptom of the antipodean currency's limited yield offering.

"There is this nagging weakness in AUD (and NOK) that no amount of SPX joy or commodity market happiness can cure. I suppose it’s still AU rates weighing on the currency," says Brent Donnelly, CEO at Spectra Markets and a veteran currency trader with time spent at hedge funds and global banks such as Lehman Brothers and HSBC.

"I suppose it’s still AU rates weighing on the currency," he adds while tipping AUD/USD as a buy in Thursday's AM/FX newsletter.

Above: AUD/USD shown at 4-hour intervals alongside other selected major exchange rates including GBP/USD, EUR/USD, NZD/USD and CAD/USD. Click image for closer inspection. 

The Reserve Bank of Australia's preference for a steady cycle of quarter percent increases in the cash rate at each meeting has seen Australian government bond yields falling behind those in the UK, Canada and the U.S. to become more comparable with those seen in France and Germany. 

This widening gap is a prominent candidate for explaining the March and year-to-date underperformance of the Australian Dollar but it's also something that could be partially reversed as soon as next week if the RBA surprises the market with another increase in the cash rate on Tuesday.

"Maybe it will take a hawkish RBA meeting on April 4 to finally jar the Oswald out of its slumber. If Aussie rates start flicking higher, AUD could be at 0.6900 in a blink," Donnelly says.

"I think Q2 will see a renaissance of the China reopening trade as discussed yesterday and with peak Fed here, AUD could be a reasonable long at some point if you want to be short USD," he also said previously.

Financial arkets have all but written off the idea of an increase in the RBA cash rate next Tuesday since the March failure of Silicon Valley Bank culminated in the Federal Reserve (Fed) adopting a more cautious policy stance last week. 

Above: AUD/USD shown at daily intervals alongside other selected major exchange rates including GBP/USD, EUR/USD, NZD/USD and CAD/USD. Click image for closer inspection. To optimise the timing of international payments you could consider setting a free FX rate alert here.

"I think the RBA holds rates unchanged, but I also think 4bp of hikes that are priced is too low and the probability of a hike should be closer to 40% than the implied 16%. The downside in AUD on a pause seems limited," says Chris Weston, chief market analyst at Pepperstone.

"Market pricing portrays a high degree of conviction that the RBA are on hold - so a 25bp hike could cause the AUD to see a solid spike off the bat," he adds

The potential rub for the Australian Dollar, however, is that if anything the inflation figures released on Wednesday will have done little to discourage the RBA from its bid to keep "the economy on an even keel" while using interest rates to guide inflation back to within the 2% to 3% target band.

Inflation fell from 7.4% to 6.8% in a February outcome that is likely encouraging of the RBA's view that inflation peaked late last year, although much about next week's decision also depends on what is made of other recent figures including those on employment and retail sales.

Data out earlier in March showed Australian employment rebounding strongly from a two-month contraction in February but figures out this Tuesday confirmed only tepid growth in retail sales over the same period. 

Above: AUD/USD shown at weekly intervals alongside other selected major exchange rates including GBP/USD, EUR/USD, NZD/USD and CAD/USD. Click image for closer inspection.