After sitting out the markets during the holiday period, the FAST FX model has triggered a sell AUD/USD trade. There are a couple of sources to this trigger: (1) after several weeks of being unstable, the primary model for AUD/USD has returned to being stable; and (2) while the FAST FX model has been pushing the fair value for AUD/USD higher due to stronger commodity prices, the rally in spot AUD/USD has outpaced the move higher in its fair value. So, the model has triggered a sell AUD/USD trade with a stop-loss of -estimated fair value. Australian inflation data, out this week, as well as market sentiment will be the key determinants of the outcome of this trade.
The rest of the G10 crosses covered by the FAST FX model are trading close to their estimated fair values, so AUD/USD is a standout in deviating significantly from its fair value.
The fall in EUR/GBP on the back of GBP’s post-Brexit-deal rally has led to its primary model becoming unstable. While the FAST FX model accounts for the deal via the retreat in market expectations for negative rates in the UK as well as the outperformance of UK equities relative to EZ equities, this has not been enough to account for EUR/GBP’s depreciation.
My own view is that AUD still has some further upside as the risk rally moves into true blowoff territory. But I’m also pulling my outlook back to a peak in the low-80s later this year.
The conditions for a sustained fall in the AUD are emerging:
China is set to slow. Iron ore is very high and later this year will see materially more supply plus fading Chinese conditions as it tightens. Especially on the property sector which is the key input into iron ore values. Adding fuel to this fire, Chinese authorities are becoming uncomfortable with CNY appreciation.
US and European rebounds will be AUD supportive. But a weaker China weighs on Europe, and US outperformance will be the story into 2022 with greater fiscal.
The Biden Administration appears unlikely to lift Chinese tariffs and its growth outperformance will be reflected in yields.
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The timing of these is up for grabs, not least owing to the reflation blowoff, but coming they are later this year and into 2022.
David Llewellyn-Smith is Chief Strategist at the MB Fund and MB Super. David is the founding publisher and editor of MacroBusiness and was the founding publisher and global economy editor of The Diplomat, the Asia Pacific’s leading geo-politics and economics portal.
He is also a former gold trader and economic commentator at The Sydney Morning Herald, The Age, the ABC and Business Spectator. He is the co-author of The Great Crash of 2008 with Ross Garnaut and was the editor of the second Garnaut Climate Change Review.
