AUD/USD: Full load-down as we approach FOMC minutes and Aussie jobs report

• AUD/USD is a complicated mix of "what's happening to the US dollar?," China's economic performance, the Yuan and EM-FX and not least, of course, domestic factors such as low wage growth. 
• Currently, AUD/USD is trading at 0.7126 and is in the hands of the bears with the USD broadly strengthing against G10 FX ahead of the FOMC minutes today. 

AUD/USD dropped after a brief test of R1 at 0.7156, scoring 0.7159 as the high in early European trade but was met with fierce supply in a broad-based supply in the commodities sector and a bid in the greenback with the FOMC minutes that are the main focus today.

Is EM carry trade back?

The performance of the Aussie has very much been determined by that of the Chinese Yuan and EM-FX with the retail market participant space paying most attention to such correlations since the Turkish Lira crisis. We have seen a remarkable comeback in EM-FX since September with Bloomberg's EM Carry Trade Index gaining more than 5% from its low year-to-date set at the beginning of September. The Chinese currency started to stabilise in mid-August after meeting highs if 6.9590. The pair then stuck to a sideways range between 0.68960's & 6.7819, albeit with a more recent tendency for the upside again with a recent high of 6.9435. This level tallies up with the recent decline in the Aussie from the 20th Sep peak and spinning top highs of 0.7304 to 0.7041 within the dominant bear trend and bear channel established at the double-top highs of 0.8118.

All in all, while EM-FX has improved, it does not equate to a broad-based change of sentiment in the markets. There is no incentive, at this stage, to get long of the carry appeal that the EM-FX space had once basked in.

 Analysts at Rabobank argued that "most of the EM currencies included in the 'Carry Trade Index' have been performing well over the past few weeks mainly on the back of idiosyncratic factors, which may not provide sufficient insulation if external headwinds intensify in the coming months:

"We expect that trade tension between the US and China is likely to escalate in the coming months. This, in turn, would reignite volatility and undermine the attractiveness of the carry trade - Overall, recent improvement in carry trade should be interpreted as a short-term relief after heavy losses sustained by the Turkish lira and the Brazilian real rather than the beginning of a new long-term trend amongst high EM yielders."

 

Aussie Jobs data will depend on wages

As for domestic factors playing their role in the Aussie's depreciation vs the greenback again, ahead of today's jobs report, RBA Deputy Governor Debelle's speech at the Citi Conference on The State of the Labour Market yesterday was a reminder to markets that there are concerns in the RBA over the nation's low wage growth despite strong employment and participation rate. 

"He hinted that the unemployment rate might have to fall below 5% (current: 5.3%) to stabilize inflation. The speech also highlighted a noteworthy pickup in manufacturing employment while construction employment moved closer to 10% of total employment (around its highest share of employment since the 1920s), supported by a large amount of activity in residential and infrastructure construction particularly in the eastern states," analysts at TD Securities noted. 

We now turn heads towards the dollar.

Focus on the dollar

There are many arguments for a softer dollar from here out, and the following are a list of 5 reasons that one might take a bearish view, rebutted by bulls at HSBC:

• "Bearish USD argument 1 - Fed rates are near the peak and are already priced in. HSBC pushback - Rates may be moving closer to neutral, but this is not the same as the peak rate. Doubts remain about when and how quickly other central banks will raise rates. Also, the level may matter, not just the rate of change.
• Bearish USD argument 2 - The US economy is set to slow, while Eurozone growth will pick up. HSBC pushback - US growth estimates are being revised upwards, while the Eurozone needs growth to recover just to meet existing forecasts. Survey data in Eurozone remains challenging. The market seems to assume a Eurozone recovery but cannot explain the big growth miss so far in 2018.
• Bearish USD argument 3 - Structural forces point to a weaker USD, overwhelming any cyclical support from higher interest rates. HSBC pushback - Eurozone has its structural frailties too, as Italy’s tribulations illustrate. Internal Eurozone imbalances are difficult to address. Fiscal issues can open the question of whether the EUR is divisible, while the USD is not.
• Bearish USD argument 4 – Emerging markets FX is structurally sound and cheap, with USD weakness the flipside. HSBC pushback – We believe emerging market FX does not offer value and those that are ‘cheap’ reflect their risk profile. Foreigners still own much of the local market, suggesting less scope for a rush back into these currencies. Macro frailties remain.
• Bearish USD argument 5 - The USD has not rallied enough or at all given what should have been supportive developments – this shows it is already expensive. HSBC pushback - The USD has continued to rally on a broader basis, even if this is not fully captured by the USD Index (DXY). The USD is not expensive on our metrics, and has room to catch up with these developments, in our view."

Meanwhile, while HSBC manages to rebuttal those five critical arguments for a weaker dollar for the near term, the medium-term outlook is not so rosy, and it may be that the US twin deficits will become a significant theme in 2019/2020, especially as the Trump's administration's economic reforms start to wear thin.

"By the middle of next year we expect that the outlook for the USD may have started to sour. This assumes that the tightening cycle of the Fed will be at its peak, that the impact on US growth from Trump tax cuts will have started to fade and that the increases in the US budget deficit will be garnering more attention.  Any worsening in the US economic backdrop will likely ensure that the USD’s safe haven appeal is significantly lessened,"

 - Analysts at Rabobank argued. 

For the near term, at least, there is enough solace in what HSBC have argued to guide us forward with respect to a lower AUD/USD rate so long as the US economy continues to outpace that of its competitors and the dollar can hold its safe haven status in the face of many uncertainties on a geopolitical scale. Today's FOMC minutes could well be the life ring that the bulls have been crying out for over the last number of downside weeks for the greenback. 

AUD/NZD worth a look

The minutes are likely to highlight the divergence between the Fed and that of neighbouring Central Banks - the closest to which might be considered the BoE or BoC - but certainly not the RBA - (On that note, the downside in AUD/NZD might be worth considering also due to the latest round of GDP and CPI that has given the Kiwi the breakaway edge below key channel support). 

However, all will depend for the near term, on the Aussie jobs data slated for tonight and it would be prudent to step too deeply into anything until the state of the jobs market in Australia is fully unveiled. 

AUD/USD levels

• Support levels: 0.7110 0.7085 0.7040    
• Resistance levels: 0.7140 0.7175 0.7200

Valeria Bednarik, Chief Analyst at FXStreet explained that the pair trades at daily lows nearing the 61.8% retracement of its latest daily decline, but holding above the 38.2% retracement of the same slide at 0.7110, the immediate support:

"In the 4 hours chart, the downside potential is limited, as the pair is holding around a still bullish 20 SMA, while technical indicators eased, but hold right above their mid-lines."