Australian Dollar May Break From Range On Earnings and Inflation Data


[B]Fundamental Outlook for Australian Dollar: Neutral[/B]

The Australian dollar over 300 pips on the week as positive fundamental data and an increase in risk appetite helped provide support. Indeed, the main driver of price action was positive earnings results from leading U.S. financial institutions including Goldman Sachs which may have put an end to concerns over the credit crisis. The focus is now on earnings going forward and optimism soared with several blue chip names like Intel beating estimates as well. Meanwhile, the NAB business confidence survey turned positive for the first time since December 2007 as it appears the worst has past for the global economy. However, we did see the Westpac leading indicator slump by 0.2% after a 0.5% gain in May on a drop in dwelling approvals and the stock market. Yet, Bill Evans, chief economist at Westpac in Sydney, said “This reading supports the reasonable expectation that we have passed the worst, although the index is still contracting on a six-month annualized basis.” The S&P/ASX 20 index rose this week by over 300 points supporting the claim. A drop in Australian export prices by 20.6% in the second quarter may raise concerns as the Australian economy is dependent on exports.

The signs that the Australian economy is improving has raised interest rate expectations as many expect the RBA to remain on hold for the remainder of the year. In fact we saw Credit Suisse overnight index swaps raise expectations to 68 bps from 37 for rates over the next twelve months. Indeed, we also saw a dramatic reversal in the DailyFX carry trade index which rose 556 points on the back of strong earnings reversing the prior week’s losses. However, I would caution that we still have yet to see several blue chip names report like Caterpillar, Boeing, Eli Lilly, Halliburton, which could have a bigger impact on the sentiment for the global economy and the Australian dollar. Last quarter we saw a rebound in financials spur optimism only to have it tempered by cyclical names which are still feeling the impact from the credit crisis.

This week we should get further insight into interest rate expectations with the RBA minutes and inflation data on tap. Producer and consumer prices are due to cross the wires with both expected to decline as the steep drop in oil prices from a year ago continues to filter through the economy. The headline inflation rate is expected to fall to 1.5% from 2.5% which would be the lowest since June 1999 and below the RBA’s 2-3% target band. However, we would need to inflation fall near 1.0% before we would think the RBA would consider another rate cut. Therefore, an inline print or better could spark a bullish reaction. Of course the RBA minutes will have an impact on expectations going into the release, a bullish policy committee may steal the inflation reports thunder. We started to see the Australian dollar trade heavy at the end of the week as risk appetite waned, which could lead to another test of 0.7784-38.2% Fibo of 0.6952- 0.8267 as range bound price action continues. A break above 0.8266- the 6/3 high could be a sign that a longer term bullish trend is underway. -JR