• Risk rebound. US equities rose overnight after last week’s falls. USD/JPY touched highest point since 1986. AUD treading water just under ~$0.69.
• Data pulse. RBA minutes & China PMIs due today. Later this week US Fed Chair Warsh speaks, the ISM is due, & non-farm payrolls are released.
Global Trends
After the recent bout of risk aversion which saw US equities decline and the USD strengthen last week, markets have started this week on a more positive footing. The US S&P500 rose overnight (+1.2%) with the tech-focused NASDAQ outperforming (+2.1%). ‘Glass half full’ equities bounced despite lingering ‘valuation’ concerns, particularly across chip/AI stocks, and the fragile ceasefire between the US/Iran which has seen oil prices tick up (brent crude is back above US$73/brl). US bond yields consolidated with the benchmark 10yr rate hovering near ~4.37%, just above the mid-point of its 6-month range. In FX, the USD index drifted back, though that was largely due to strength across European currencies with EUR (now ~$1.1425) and GBP (now ~$1.3260) edging higher after their torrid run. The NZD has nudged up slightly (now ~$0.5651), while the AUD has tread water (now ~$0.6888) over the past 24hrs.
Elsewhere, USD/JPY (the second most traded currency pair) reached its highest point since late 1986 (now ~161.93). The weakness in the JPY is occurring despite an improvement in underlying fundamentals, suggesting the chances of another bout of FX intervention by Japanese officials to prop up the currency and/or push back against one-sided speculative behaviour is on the rise. We see asymmetric risks for the JPY around current levels (i.e. a greater chance USD/JPY and other pairs like AUD/JPY fall back sharply rather than rise much further). For one, USD/JPY already appears very stretched compared to underlying drivers such as yield spreads (see chart below). Added to that, the weakness in the JPY will add to inflation in Japan via import price. This in turn may force the Bank of Japan to increase interest rates even more than people think. The decline in oil prices is also a fundamental positive for the JPY given Japan is a ‘net energy importer’ and the drop in prices should improve Japan’s current account position.
Over the next few days the pulse of the US economy and jobs market, as well as the outlook for Fed policy could be in the drivers seat. New US Fed Chair Warsh is speaking on a central banker panel (Weds night AEST), the bellwether US ISM manufacturing survey is due (Weds night AEST), and US labour market indicators like JOLTS job openings (tonight 12am AEST) and the non-farm payrolls report (Thurs night AEST) will be released. In our opinion, more signs the US economy is picking up steam and/or the labour market is turning the corner could bolster the markets US Fed rate hike pricing. If realised, this might be USD supportive. Markets are factoring in a US Fed rate rise by late-October but only believe there is a ~50% chance another increase is delivered after that.
Trans-Tasman Zone
Risk sentiment has improved at the start of the new week with US equities rebounding overnight and volatility measures like the VIX index easing (see above). This has helped the NZD recoup a little lost ground, however at ~$0.5651 it is still near the lower end of the range occupied since late-November. The AUD (now ~$0.6888) has consolidated around the bottom of its ~5-month range with the AUD also weakening on some of the major cross-rates. AUD/EUR (now ~0.6029) dipped, as has AUD/GBP (now ~0.5195) and AUD/NZD (now ~1.2190). By contrast, AUD/JPY (now ~111.54) and AUD/CNH (now ~4.6835) tread water, albeit towards the bottom of their respective 2-month and 5-month ranges.
Today, the minutes of the last RBA meeting are due (11:30am AEST). Given the post meeting statement and press conference the minutes shouldn’t deliver many surprises with policymakers still assessing whether more policy tightening is needed down the track. From our perspective, there are lingering inflation pressures that could support another RBA rate rise, but there are probably more reasons coming through on the growth/labour market side suggesting the RBA might not deliver another rate hike this cycle.
Market pricing, assuming a ~45% chance of another RBA increase by November, seems ‘fair’ to us given the push-pull forces. That said, a key point is that the RBA appears closer to the end than the beginning of its tightening phase. By contrast, other central banks have only just started to get off the mark, and markets are pricing in a greater chance the US Fed might soon raise rates. Hence, relative yield spreads are shifting against the AUD. This may be compounded by a slowdown in Australian growth and challenges faced by the Asian economy from the prolonged Middle East conflict and disruptions to energy/supply-chains. As our chart shows, the AUD looks a bit high compared to where Asian currencies are tracking. All up, we think the AUD is still facing more downside risks over the near-term with our models indicating ‘fair value’ is close to ~$0.68.
