AUD: Kangaroos pounce loons and kiwis - TDS

Research Team at TDS, suggests that the price action in AUD has been surprisingly resilient since the Brexit vote.

Key Quotes

“Indeed, it has rallied 0.3% against the USD since the vote, outperforming nearly all of the majors. This outperformance comes in spite of uncertainty over the election and the warning from Moody's about Australia's credit rating. We expect AUD to continue its outperformance in the dollar bloc so look to buy the dips rather than fade the rallies against CAD and NZD over the coming weeks.

Our high-frequency fair value models show AUD/NZD is the better tactical trade of the two. For a start, the first chart shows that the cross is two standard deviations cheap to our fair value model, pointing to a level above 1.06. This reflects the underpricing of the cross against its two primary drivers: rate spreads and terms of trade. Both indicators suggest that fair value for the cross is around 1.10. The market will keep a close eye on Australia's employment report this week but barring a significant downside miss the combination of stable global growth and the Fed on hold benefits AUD. Possible easing from some G5 nations adds further support for AUD.

For AUD/CAD, our high-frequency model shows the cross is trading relatively close to implied levels. Even so, the second chart indicates that CAD positioning look overextended with longs just shy of the three-year high. AUD, on the other hand, sits in the middle of its three-year range. We also think CAD looks vulnerable this week to a shift in tone from the BoC given softer growth and the deterioration in trade. This should result in considerable headwinds for CAD in H2. We also note that AUD maintains a healthy balance of payments, so its real yield advantage has probably helped to offset its current account deficit while CAD’s flows have deteriorated.

Finally, we also believe that AUD has to some degree shed its high-beta status in the G10. We showed recently that CAD, not AUD, has demonstrated the greatest sensitivity to different proxies to risk appetite over the past few months. The probably reflects in part the shift in terms of trade and associated inflows that have supported CAD over the past few months. Meanwhile, the third chart shows that Australian data surprises have outperformed the rest of the dollar bloc since April. Domestic trends have seen the RBA shift to a more neutral, suggesting market pricing may be too dovish.”