The Australian Dollar gained against the pound and other counterparts in early trading Tuesday after the Reserve Bank of Australia (RBA) gave no indications they were going to continue cutting interest rates at their June meeting
The central bank already cut interest rates to 1.75% from 2.00% in May, in an attempt to lift moribund inflation,
however, at their June meeting they decided to keep rates unchanged.
Investors had been expecting a more explicit message that they they were into an easing cycle, but this was not in the statement delivered by governor Glenn Stevens.
In expectation of interest rates to remain high Aussie dollar traders increased their holdings as higher interest rates support a currency by attracting more foreign capital to a country. As a result the Aussie rose.
The housing bubble is one reason the RBA have not cut rates as aggressively as they might have wanted.
In their June statement the RBA specifically mentioned the recent jump in house prices, which could arguably be a sign they would be less inclined to cut rates, as this would feed the housing market bubble by making mortgages cheaper.
Nevertheless, it was also true that they also mentioned more housing supply was about to come online and therefore likely to stabilize prices:
"Dwelling prices have begun to rise again recently. But considerable supply of apartments is scheduled to come on stream over the next couple of years, particularly in the eastern capital cities."
St George Economics commented that the statement showed the RBA was not "inclined" to make a rate cut any time soon, however, the advisory service maintained their August rate cut call,as they see deflationary pressures continuing in June.
Overall the statement improved the outlook for the Aussie. Australian Bank Westpac issued a sell recommendation for GBP/AUD after the event, which they see moving lower to 1.92 from its current level in the 1.95s:
"However, recent polls suggest it was premature to price out “Brexit”. We expect the pound to underperform major currencies ahead of 23 June, helping AUD/GBP extend the recent move to 0.52, GBP/AUD to 1.92. A lack of urgency at the RBA for another rate cut and steadying commodity prices should also help AUD over the next month or so."
The GBP/AUD pair gapped down at the start of the week, hitting lows of 1.9535, as a result of pound weakness after more referendum polls over the weekend showed the pro-Brexit camp in the lead.
We see, on balance, more downside on the horizon, as the trend following the gap extends lower, and those wishing to buy Australian Dollars may be presented with a good opportunity this week, particularly after the meeting of the Reserve Bank of Australia.
The current bearish pull-back which started after the market rolled over following the May 26 highs at 2.0530, is likely to extend to at least the mid-point, or 50% retracement, of the previous rally at 1.9420.
The gap itself holds clues as to how low the current move could eventually go. There is a high chance it could be a measuring gap, which indicates it is probably in the middle of a longer move down, probably with an endpoint at 1.8905.
Another, closer target is 1.9315, where the 50-day moving average (MAV) is situated and likely to provide an obstacle to more weakness, as moving averages often attract traders trading counter to the dominant trend.
The pair is likely to undergo substantial volatility in the week ahead as the Reserve Bank of Australia (RBA) will be holding their meeting to decide whether or not to change base interest rates - or the OCR, or Official Cash Rate as its known.
Most analysts agree that the chances of the RBA cutting interest rates is low, so the Aussie could actually gain a lift after the meeting.
Broker TD Securities make it clear in a meeting briefing that they do not see the RBA cutting either:
"We expect the RBA to hold at 1.75% after hawkish May Minutes and a string of decent data."
They also add that the Aussie's current value (vs USD) is within the RBA's target range for being supportive of growth:
"The AUD between $US0.70-73 is consistent with the RBA’s soft target of “in the low 70s” as that level is more supportive for growth."
They think the statement, however, may reiterate concerns about the persistence of stubbornly low inflation, and this could pressure the currency lower:
"We expect a clear easing bias to be reintroduced along the lines of “continued low inflation would provide scope for easier policy, should that be appropriate to lend support to demand”.
The recent run of data has been quite positive for the Aussie, with a rise in retail sales, job growth and a narrower trade deficit.
The recent rebound in commodities appears to be continuing despite naysayers predicting it would not last.
In particular Iron Ore is showing fresh signs of strength. From falling $50 per tonne, it has now risen back up into the 54s, a result of data from China showing a surprise fall in inventories; and continued bidding up of Iron Ore Futures by speculators on Chinese exchanges such as the Dalian.
Iron ore is expected to gain even more support from the the government's infrastructure-orientated pro-growth stimulus programme, which is likely to be iron ore intensive.
Any further dollar weakness in the week ahead is likely to support the Australian Dollar, as it will support commodity prices, which are valued in US dollars.
Sterling, meanwhile, is at risk of falling, as resurrected Brexit fears come back to haunt, due to recent polls being too close to call, or showing 'Leave' in the lead.
As far as data for week ahead goes, the highlights will probably be Manufacturing Production on Wednesday, however, given the subdued Manufacturing PMI result, which although better-than- forecast, and back into growth territory, was nevertheless still historically low, there is little expectation of a strong result.