Westpac took the axe to its year-end target for the Australian dollar today, forecasting that the AUD/USD will fall to 0.66 on the back of considerable turmoil across financial markets.
The bank saw the Aussie finishing the year at 70 US cents previously, some 4 cents higher than it now deems the fair value estimate. The reason for the disparity between the two was the long-running premium the prevailing spot price had to their estimate. However, in light of recent market volatility, the bank believes the premium will narrow, hence the downward revision to the year-end forecast.
Bill Evans, Westpac’s chief economist believes it’s unlikely that the confidence “vibe” around the Aussie will improve over the remainder of the year. In his opinion, negative perceptions around Australia’s trade exposure to China, weakness in emerging markets, persistent financial market volatility and the prospect for higher interest rates in the US, something they believe will occur this month, are all likely to weigh on the currency in the months ahead.
“Confidence in Australia and the AUD has been particularly shaken by developments in the emerging markets. Or put another way, as Australia shares certain characteristics with some of the worst performed economies in the emerging world – a sharp and ongoing terms of trade reversal, exposure to China, a widening current account deficit, large offshore borrowings – these factors are an albatross around the AUD’s neck in the present climate,” notes Evans.
“Last month we set out our reasoning behind the expectation that fair value would fall to 66 cents (from 69 cents at the time) by year’s end. Those reasons included a lower forecast for world growth in 2015 and 2016; further falls in commodity prices; an increase in Australia’s external deficit and a rate hike by the US Federal Reserve on September 17. None of those reasons has changed and neither has our judgement of the fundamentals from which we derive our fair value estimate”.
While he believes that the RBA will not cut interest rates further, something that differs from current market pricing, it “is unlikely to provide much of a boost for the AUD since markets will probably choose to just delay the timing of the rate cut rather than take it out of their figuring completely”.
Evans also suggests that markets are being far too cautious in their expectations for higher US interest rates this year. Evans suggests that the Fed will tighten policy in September, something the markets are not expecting based on current market pricing, which could see the Aussie fall below Westpac’s year-end fair value estimate.
Looking further out, Westpac believes the outlook for the AUD/USD in 2016 is flat, with risks yet again tilted to the downside.
In late Asian trade on Tuesday the AUD/USD currently buys .6980.
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