Broadly speaking, the Australian dollar’s (AUD) performance against the US dollar has been uninspiring this year. The unit is currently trading within a hair’s breadth of where it began 2005 and has remained within a shallow downward trend since March. Having embarked on a promising recovery from its lows on 7 July (of $ 0.7364), the unit once again took a tumble in mid-August as the prospects of higher Australian interest rates began to dim. However, the AUD is on the rise again – currently trading north of 76 cents; and the basis for its recent gains give rise to optimism that the Aussie unit can make further progress.
Of course, if the unit is to reach or breach the year’s high (which still lies some way off at $0.7988), it seems it will have to do so without the support of rising interest rates – at least for the remainder of the year. Little by little, interest rate hawks dwindled through the summer and a definitive moment in this respect came earlier last month, when Reserve Bank of Australia (RBA) governor, Ian McFarlane said: “We are not expecting to change monetary policy in the near term, and when we look further into the future we no longer see a clear probability of it moving in one direction rather than the other … that does not mean that further rises could not happen; it only means that in our present estimation there is no longer a more than 50 per cent possibility of it happening”. And little wonder: inflation remains subdued (right in the middle of the RBA’s 2-3 per cent monitoring range as of Q2) and while the RBA expects inflation to peak at 3 per cent next year, the bank does not anticipate it heading higher from thereon.
Accordingly, the consensus does not anticipate a change to monetary policy when the RBA meets next week, nor for the remainder of the year for that matter. Nevertheless, it is too early to dismiss the prospects of a near term policy shift and many a forecaster is anticipating a resumption of rate hikes in 2006. The reasons oft cited for this are the unrelenting strength of the labour market and rising commodity prices. It is the latter that gives rise to optimism for the AUD – at least in the near term.
The Reuters/Jefferies CRB commodities index (whose 17 constituents include oil, gold and grains) has risen to a fresh 25-year high in the wake of Hurricane Katrina (due to the damage wrought upon oil and grains infrastructure in the Gulf). And as a prime commodity currency, the AUD has been a key beneficiary (depending on the index chosen, the unit has had a 60-80 per cent correlation with commodity prices since the turn of the millennium). Along with its strong economic performance, Australia’s status as a major commodity producer has been a major factor behind the impressive performance of the benchmark S&P/ASX 200 index this year. The index has risen more than 10 per cent this year and is currently trading near all time highs. We suspect that foreign investors will unlikely be hesitant in capitalising on the positive momentum behind the index - and this should afford the AUD an additional level of support.
The Canadian dollar and New Zealand dollar are vying for the commodity currency “crown” due to the additional prospects of a continued tightening in monetary policy. With dollar sentiment ebbing due to renewed doubts over US growth and Fed policy, the AUD’s chances of a renewed assault upon the 80 cent level are as high now as they have been for some time.
Neil Mellor is a currency strategist at the Bank of New York.
Researched and published in association with The Bank of New York
