AUD outlook : RBC

RBC Capital Markets notes:

1 - 3 Month Outlook - RBA holds the line for now

The early June meeting of the RBA saw the Bank leave the policy rate steady at 2.00%, following two cuts earlier this year in February and May. In the latest policy statement, the RBA did not include any obvious easing bias, and AUD has bounced sharply as a result. 

What's important though, is that the Bank's more detailed projections in their most recent Statement of Monetary Policy provide a clearer suggestion that the bias for policy rates is still lower. The crux of that outlook continues to be the well messaged themes of lower commodity prices (iron ore up from the lows, but still down ~11% ytd) and weak business capital expenditure, and those trends have only extended over the past month. 

Our economists view these issues as longer-term in nature, and expect that they will continue to drive sub-trend growth that will ultimately lead to further rate cuts in 2016 . In the wake of the RBA meeting, the forward curve is close to flat over the next year, and there likely will not be enough evidence in the coming 1-3 months to alter that pricing much. 

For AUD/USD though, the policy divergence theme should still keep pressure on the pair with the Fed approaching a hike this year. That should see short end rate spreads continue to trend in favour of USD regardless of the amount or timing of potential RBA cuts. Partly offsetting those pressures are capital inflows, as AU remains high yielding in the current global low yield environment. Nevertheless, we expect these flows should only mitigate the pressure on the currency.

6 - 12 Month Outlook - Two more RBA cuts

Over the longer-term, we expect the commodities and terms-of-trade trend lower to persist, and for the income effect to ultimately drive the RBA to cut two more times in 2016 (to a cash rate of 1.50%). Against ongoing independent USD strength we foresee a gradual decline in AUD/USD, which we expect to extend over the 6-12 month horizon and beyond. 

We see some potential for a mild offset to these pressures in 2015 from capital inflows, as the RBA's 'wait and see' approach leaves the Bank with a more neutral bias, and AU as one of the few 'high yielding' AAA sovereign countries. That should remain the case until later on the horizon, when AU yields converge with other safe alternatives.