Hoocoodanode?
AUD/USD Picked To Hit 0.75
- AUD/USD profile lowered across the forecast horizon.
- A deteriorating terms of trade outlook, as well as our view that the RBA will cut rates in 2015, are the key drivers of this revision.
- AUD/USD will need to do the hard yards to get the A$ TWI down, as the crosses remain supported.
- We see AUD/USD at 0.78 by end-2015, before bottoming out at 0.75 by late 2016.
Downbeat Terms of Trade, RBA Outlooks Drive AUD
The medium-term supply-demand dynamics for key Australian resource exports have been clear for some time now. The diminishing resource hunger of China, combined with steady supply growth, spelled a secular decline in Australia’s terms of trade from the 2011 peak. As a result, we have long been bearish on the AUD, confident of its eventual adjustment to, and alignment with, the economic fundamentals. Recent deterioration in the latter compels us double down on that conviction, complemented by the prospect of RBA rate cuts in the coming year.
Iron ore prices continue to grind lower, having nearly halved in price over the year to date. The well-documented collapse in global oil prices has serious implications for Australia’s LNG exports. We expect another 16% decline in the terms of trade by the end of 2017, on top of the 25% fall already experienced since late 2011. This would take the peak-to-trough decline to 32%. By comparison, the AUD TWI has fallen just 15% since its peak.
It still has some catching up to do.
Terms Of Trade Demands Further AUD Declines
A lower terms of trade adds to headwinds for the Australian economy. Some nascent positive signs in the non-mining economy recently are unlikely to be a sufficient offset. NAB Economics has revised its unemployment rate forecast higher, now expecting it to rise from 6.2% today to 6.7% by mid-2015. With the inflation benign, and some evidence that the housing market is cooling, the RBA will likely have room to cut the cash rate again in 2015. NAB now expects a 25bps rate cut in March and then again in August if the $A doesn’t fall and/or the economy doesn’t improve sufficiently. Rate hikes are now only likely in late 2016 (previously expected in late 2015).
AUD Forecast Summary – New vs Old
As a result, we adjust our AUD/USD track lower across the forecast horizon by three cents, with our end-2015 target now 0.78 (previously 0.81) and the cyclical trough at 0.75 in late 2016 (previously 0.78). We make no changes to our other FX forecasts.
We expect the terms of trade decline to have the most impact over the coming year, helped ably by falling Australian interest rates that come off the back of policy rate cuts. The delay to the RBA hiking cycle will prevent AUD from finding much fundamental support until late 2016. This works neatly with our broader G10 story, in which we are avowed USD bulls. While this was a frustrating view to hold in the first part of 2014, it has had a strong second-half showing. Last week’s US employment report reinforces our expectation that the Fed will begin to lift policy rates beginning in June 2015.
This monetary policy divergence will keep the USD rallying through to mid- to late-2016, by which point the BoJ and ECB should be starting to pare back on their respective easing programs. We expect the USD to come off its peaks in 2017. Please see our 2015 FX Outlook and Top Trades publication for further discussion of our major-currency FX views.
Keep in mind that the AUD/USD will be doing much of the heavy lifting in terms of getting the AUD TWI lower. While the RBA rate cuts represent policy easing in the conventional sense, we live in a world of unconventional policy. The BoJ is aggressively expanding its balance sheet, and the ECB intends to do the same. These should keep AUD/JPY and AUD/EUR supported for some time yet.
We still prefer to express our USD bullishness by being short EUR and NZD. The weaker AUD outlook will help our short AUD/CAD position, where we have just hit our initial target of 0.9475. We look for a further fall to the 2013 low of 0.9175.
Poor old Bloxo. AUD at $82.53, new low…
