Currencies | May 14 2012
– CBA expects longer than expected US dollar resilience
– Australian and New Zealand dollar estimates trimmed
– Yen to remain strong near-term
By Chris Shaw
The combination of relatively firmer US GDP growth and elevated bond spreads and LIBOR rates leads Commonwealth Bank to suggest the US dollar is expected to remain resilient for longer than had previously been expected.
As Richard Grace, CBA's chief currency strategist and head of international economics, notes, the recession in Europe also looks like it will last longer than had been expected, to the extent US GDP growth relative to G6 GDP growth will remain above 1.0%. Past occasions when this has occurred has resulted in strength in the US dollar.
At the same time Grace notes the US-major currency two-year swap spread is now expected to remain elevated, this two-year swap spread continuing to remain a good guide with respect to medium-term US dollar strength.
The fact US LIBOR rates remain at high levels is a reflection of ongoing demand for the US currency, a trend expected to continue for at least the next few months and potentially for longer. Grace expects this will also support the dollar.
One positive according to Grace is the concerns in the eurozone are unlikely to escalate much beyond current levels, meaning changes to EUR/USD forecasts have been relatively modest. CBA is now forecasting quarter end EUR/USD rates of 1.27 this June, 1.30 this September, 1.34 this December and 1.35 next March. Old estimates were 1.27, 1.32, 1.35 and 1.37 respectively.
For the Australian dollar against the greenback Grace has trimmed estimates to reflect a number of factors. One is the recent cuts to interest rates by the Reserve Bank of Australia (RBA), Grace noting further cuts are priced into the front end of the Australian interest rate curve at present. This has resulted in the Australia-US two-year bond spread falling to 248 basis points.
As well, Grace notes the Australian government has introduced fiscal austerity into this year's budget, which is expected to cut GDP growth in 2012/13 by 0.8% relative to 2011/12. This expected impact on growth increases the risk there is more than the bank's forecast one further 25-basis point cut in interest rates in coming months.
In Grace's view, the peak in Australia's terms of trade implies the dollar should trade at a lower level, though this downward pressure is not likely to be large. At the same time a slight acceleration in global economic growth in 2013 is not expected to generate more than a modest lift in commodity prices.
The changes to expectations for the Australian dollar is not a sign CBA is turning bearish on the currency, as the bank still expects an average AUD/USD rate of close to 1.04 for the next 12 months. This reflects the fact domestic absolute interest rate levels relative to the rest of the world are attractive.
At the same time, Australia's AAA sovereign credit rating, highly rated banking system and trend GDP growth should continue to attract foreign buying of Australian bonds, which should support the currency.
As well, Grace notes global economic growth should continue to be driven by Asia, which is likely to mean a continuation of the trend of more market players using the Australian dollar to gain exposure to the Asian region.
Grace's new Australian dollar forecasts relative to the US dollar stand at 0.9800 for the end of the June quarter, 1.03 for the end of September, 1.05 for the end of December and 1.04 for the end of March next year. Previous forecasts were 1.08 for the June and September quarters, 1.09 for the December quarter and 1.10 for the March quarter of 2013.
Changes in New Zealand dollar expectations have also been factored in, as Grace has pushed out expectations for the timing of increases to interest rates by the Reserve Bank of New Zealand (RBNZ). Grace suggests the risk in the short-term is the RBNZ actually cuts rates.
As well, in Grace's view agricultural commodity prices will take some time to reverse, while the outlook for New Zealand's other key exports appear mixed. While the nation's terms of trade will remain historically high it will be below its peak of 2011.
New quarter end forecasts for the New Zealand dollar relative to the US dollar are 0.76 or June, 0.82 for September and 0.83 for the December quarter this year and March quarter of next year, down from 0.85, 0.86, 0.88 and 0.90 respectively.
Short-term cyclical factors see Grace make more significant changes to forecasts for the Japanese yen, with the currency now expected to remain strong in the near-term thanks to a number of short-term cyclical factors.
Behind the changes to forecasts are several reasons, including recent comments by the Bank of Japan (BoJ) further significant policy easing is unlikely as the price stability goal of 1.0% inflation is reached. As well, Grace notes spreads between the US and Japanese three-year swaps have narrowed and global stock markets have fallen, the latter discouraging Japanese investors from selling the yen to invest capital offshore.
Grace continues to expects the yen will weaken over the course of 2012, reflecting Japan's trade deficit and shrinking current account surplus and some structural changes on both the import and export side of the trade ledger. Demographics also support a weaker yen going forward.
In terms of quarter end forecasts, Grace now expects JPY/USD rates of 80.00 for the June quarter, 83.00 in September and 85.00 in both December and March next year. Previous forecasts were 85.00, 90.00, 92.00 and 95.00 respectively.
Dankse Bank has also updated its forex market views, noting renewed concerns over the eurozone have weighed on market sentiment, so pushing up implied volatility. Peripheral nations in the EU have been setting the direction for the EUR/USD in recent weeks, to the extend Danske suggests the currency pair is nearing stretched levels. Despite this, a test of key support at 1.2854 cannot be ruled out short-term in Danske's view.
The recent upward trend in the EUR/AUD pair is also likely to continue near-term if Chinese data continues to disappoint, but given a positive macro outlook Danske expects the Australian dollar will strengthen against the euro later this year. This positive macro outlook also supports Danske's view carry strategies look attractively at present.
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