Currencies | Oct 09 2009
By Chris Shaw
The Australian dollar gained when the Reserve Bank of Australia (RBA) lifted interest rates earlier this week and the currency rose further on the back of strong Australian labour market figures released yesterday. Improved risk appetite from investors and higher commodity prices in recent weeks have also provided reasons to buy the currency.
According to National Australia Bank head of currency strategy John Kyriakopoulos, there remains potential for further gains in the currency as the better than expected labour market figures yesterday have seen the market factor in additional rate hike expectations, with a further 50-basis points of increases before the end of the year now being priced in by the market.
This reflects the possibility unemployment will peak at around the 6% level, which as Kyriakopoulos notes is not much higher than the 5% rate below which inflation usually begins to pick up. The pricing in of additional interest rate increases has seen the yield advantage of Australian 2-year bonds compared to their US counterparts increase to 390-basis points, where a spread of 400 basis points has historically been consistent with an AUD/USD rate of US90c. A spread of 450-basis points would be needed to support an AUD/USD rate of US95c in his view, all else being equal.
Factoring in the developments of the past week, the bank’s weekly model of fair value for the Aussie dollar has increased by about US4c and the top end of the “fair value” range is now US90.5c. A better way to gauge whether the currency is expensive according to Kyriakopoulos, is to use a 5% cut off, which would give a top end number of US91.35c.
If the Australian currency rose above that level without any further improvement in its fundamental drivers the bank would be wary, while from a technical perspective US90.9c is likely to act as intermediate resistance. Key support for the currency at present is in the US88.8-89c range.
In Kyriakopoulos’s view, while a lot of future interest rate tightening is now being priced into the market, there remains scope for better than expected economic data to bring forward the timelime of such increases. If US corporate earnings in the current reporting season also surprise on the upide, it will boost risk appetite further, both of which would support further strength in the Australian dollar.
