Monday, February 3, 2020

Does the AUD/USD currency pair have upside potential?

  • Dollar
  • AUD
  • RBA


Analysts’ Pick: Does the AUD/USD currency pair have upside potential?

  • Improving inflation and a depressed Australian dollar likely to delay a rate cut from RBA
  • RBA officials will probably focus on the coronavirus outbreak and wildfire crisis for downside risks
  • AUD/USD may have room to rise if RBA leaves rates unchanged

The RBA is likely to leave its cash rate unchanged at 0.75% at tomorrow's monetary policy meeting, delaying a likely rate cut to later in the year. Economic data in Australia has been mostly consistent from the RBA's outlook in November. Key indicators such as GDP, inflation and labour market data has been better-than-expected as well, which means that the central bank will likely be relieved of pressure to stimulate the economy and will more probably sit back to assess the effects of its three rate cuts in 2019.

Recent inflation and GDP data both improved while unemployment rate remains low


The recovering housing market is also likely to reduce the need to cut rates. CoreLogic's index of median city home values rose 0.9% MoM. The seventh straight monthly rise in the index signals that household wealth should experience a boost although it may not directly reflect a gain in housing spending.

CoreLogic’s index of median city home values continue to stay above 0% as the housing market recovers in Australia


But the coronavirus outbreak in China is likely to weigh on the Australian economy. As Australia is dependent on China's economy, the coronavirus outbreak will likely put pressure on the Australian dollar as the virus spreads at an accelerated rate and uncertainty on the duration or severity continues. Since the virus is mostly contained in China, the Chinese economy will be impacted the most, which will spill over into Australian sectors such as mining and tourism. As a result, RBA officials will most probably focus on the coronavirus outbreak the most when talking about downside risks

China remains the epicenter of the coronavirus outbreak



The Australian dollar has dropped by more than 4% since the start of the virus outbreak


Another downside risk that the RBA will likely focus on is the ongoing wildfires in Australia. As the peak of Australia's summer season (which is the season that is most prone to wildfires) is in January and February, the effects of the crisis on the Australian economy is still uncertain. The retail industry is likely to suffer as consumer confidence continues to be weighed down by the fires, agricultural and mining companies in the area will also probably be affected in short-term.

Wildfire crisis puts pressure on consumer confidence as households are less likely to spend amid a crisis


But ahead of the RBA's decision, ISM is set to release its PMI report for the US manufacturing sector for January. We expect the dollar to be lifted thanks to a slightly better-than-expected PMI reading. But the manufacturing sector is still likely to continue contracting in January (PMI is expected to continue to stay below 50.0). This is due to the signing of the US-China phase one trade deal which will probably help business sentiment, although the transport sector is likely to continue to be weighed down by Boeing's production halt.

AUD/USD is likely to fall on the release of ISM's PMI report later today as the greenback strengthens against most major currencies. But expect the Australian dollar to advance tomorrow against the greenback past 0.6706’s level towards 0.6722 after the RBA's decision, if the central bank decides to keep rates unchanged. Only a slight increase in AUD/USD is expected however, as futures indicate that the financial markets is only pricing in a 26.7% probability for a rate cut, and as the RBA is unlikely to move away from its dovish bias. Downside risk for the aussie is present however, if the coronavirus outbreak worsens more-than-expected.

Technical Analysis:


Bears dominate the AUD/USD pair as the Australian economy continues to face pressure from the coronavirus outbreak in China. The bears are likely to continue putting pressure on the currency pair and keep it below the 20-day and 50-day moving averages. But RSI has remained below 40 for the past week, signalling that the Australian dollar continues to trade near the oversold region. This means that we may see a short reversal in the current trend, especially if the RBA decides to leave rates unchanged at tomorrow’s meeting. If bulls gain momentum, expect them to push past the resistance level of 0.6706 towards 0.6722’s level. But bears are likely to continue to retest 0.6684’s level.

Support: 0.6684 / 0.6670 / 0.6650

Resistance: 0.6706 / 0.6722 / 0.6744

AUD/USD Chart (H4)