WESTPAC: The Aussie dollar should probably be higher, but something is holding it back

Photo: Daniel Berehulak/Getty Images

The Australian dollar has had a strong run since late December, jumping 6% against the greenback in the space of just over three weeks.

However, even with the recent rally, it probably should be higher, says Westpac.

“The commodity price story continues to point to scope for AUD/USD to trade higher,” says Sean Callow, senior currency strategist at Westpac.

“Coking coal prices are unwinding but remain up sharply year-on-year and will contribute to further trade surpluses in coming months. Iron ore, meanwhile, has printed highs since 2014 this week.”

As this chart from Westpac shows, based on the bank’s modeling which incorporates the surge in Australia’s key commodity export prices over the second half of 2016, the Aussie’s fair value range currently sits in the high 70 cent region, not at .7550 where it currently trades.

Something, seemingly, is holding it back.

It could be caution before Donald Trump takes office, it certainly appears to have sparked caution in other riskier assets, but Callow thinks that it’s something closer to home that’s keeping a lid on the Aussie — concern that the commodity price rally could unwind as quickly as it arrived.

“The durability of the 2016 commodity bounce and its impact on domestic incomes and employment are open to question, limiting AUD upside,” he says.

That view is shared by many — including the Australian treasury — with heightened levels of speculative activity in Chinese commodity futures, along with caution as to whether China will maintain fiscal stimulus spending in the year ahead — keeping optimism towards the current commodities rally in check.

Along with the expectation that the RBA will leave interest rates unchanged until at least the final quarter of this year, Callow says this will likely keep a lid on the Aussie near-term, at least against the US dollar.

“0.7600 remains difficult, especially in the week ahead with the USD looking to firm a little,” he says, adding that the risks are slanted for a move towards the 0.7415/45 support area “although probably no lower”.

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