- Westpac Bank says the worst of the Aussie dollar’s falls are now over.
- It is forecasting that the Aussie will bottom around .7000 against the US dollar before recovering slightly to .7200 by the end of 2019.
- The bank says the US Federal Reserve’s tightening cycle will end sooner and lower than many currently expect, helping to offset negatives for the Aussie from widening interest rate differentials and weaker commodity prices.
Despite the prospect of a further widening in interest rate differentials between the United States and Australia as well as the likelihood of weaker commodity prices, the Australian dollar is unlikely to fall much further from current levels, says Bill Evans, Chief Economist at Westpac.
“Westpac is retaining its target for AUD/USD to end 2018 around 0.7200,” Evans says.
“Further weakness is expected through the first half of 2019, bottoming out at 0.7000 around the middle of 2019 before recovering somewhat to 0.7200 by end 2019.”
Currently, the AUD/USD trades at .7055.
Evans says that a big factor underpinning his call for limited further depreciation in the Aussie is due to an expectation the US Federal Reserve will conclude its rate tightening cycle far sooner and lower than the Fed currently anticipates.
“Any turning point in sentiment towards the USD will be significant,” he says.
“Through 2018 we have seen generally positive sentiment towards the USD. That is likely to extend through the first half of 2019 but will change when the market becomes convinced that the FOMC is on hold.
“Our current forecasts envisage the last FOMC rate hike in June next year with the market — and the FOMC itself — taking time to recognise that point.”
Evans says a less-hawkish Fed will likely help to cushion the Aussie dollar’s fall in the period ahead despite the prospect of a further widening in US and Australian interest rate differentials.
“Westpac expects the margin between the RBA cash rate and the federal funds rate to widen to 137 basis points by June next year whereas market pricing is pointing to a margin of 120 basis points,” he says.
“Therefore we are still expecting the RBA cash rate to undershoot the federal funds rate by more than markets are pricing but not significantly so.”
And despite the likelihood that recent strength in Australia’s key commodity export prices will reverse in the coming year — removing a key factor that has helped to support the Aussie — Evans says that, along with markets having already priced in a widening in interest rate differentials, is unlikely to lead to another substantial decline in the Aussie like we’ve seen in 2018.
“Looking forward we continue to expect the Commodity Price Index to soften through 2019 as the Chinese economy continues to slow,” he says, adding that Westpac is forecasting a decline in the index of around 10% through to the middle of next year.
“That outlook for the commodity price cycle, which has upside risk, coupled with our expectation of an interest rate differentials which is now largely priced into the market, explains our current forecast that… the big falls [in the Aussie] are now behind us.”
Evans has long forecast a sharp decline in the Australian dollar, suggesting over a year ago that it would fall heavily in 2018.
If his recent forecasting form is anything to go by, his latest call is definitely worth paying attention to.
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