The Australia Dollar is vulnerable to weakness whilst the Pound is a hidden gem according to analysts at Morgan Stanley.

Their conclusions suggest a bullish outlook for the GBP/AUD pair.

“We still see upside in GBP and would use the BoE driven dip to buy vs the USD and AUD,” said Strategist Hans Redeker in a recent note to clients.

A reduction in political risk following the calling of the snap general election and already-depressed market expectations of when the Bank of England (BOE) might raise rates suggest the risk lies to the upside for sterling on hawkish surprise rather than downside from more dovishness.

The big deciding factor for Sterling could be consumer activity which has slowed down substantially in 2017.

If things remain that way and shoppers continue to tighten their belts then the Pound could beat a retreat; if not it could gain in line with their forecasts.

Australian Dollar on The Edge

Morgan Stanley earmark the Australian Dollar as a currency on the cusp of weakening, seeing a combination of risks stemming from the country’s banking sector and a fall in demand for iron ore, as fundamental drivers for the currency’s depreciation.

Australian banks are more dependent on wholesale funding from abroad than most banks making them more sensitive to rising global borrowing rates from the current reflationary trend.

The latest budget statement placed a 6.0% levy on bank liabilities (or loans) in order to fund a 75bn infrastructure rebuild, and this levy on bank loans will increase their base costs for lending, making banks less profitable.

Cuts to their bottom line will reduce lending and entrepreneurial risk-taking in the real economy, leading to a slowdown which will eventually impact negatively on AUD.

“However, the tax on bank liabilities should increase domestic funding costs and make domestic funds less available. It should weaken AUD further if the future bank earnings outlook hurts risk-taking behavior and thus negatively impacts inflation or growth. Our bank analysts estimate the levy will shave 4.5% off earnings,” said Morgan Stanley’s Redeker.

If the bank levy dampens lending and inflation that would reduce the likelihood of the Reserve Bank of Australia from increasing rates, further dampening the outlook for the Aussie Dollar.

From a commodities standpoint, Redeker highlights an expected slowdown in demand from China as contributing to falling prices.

“A structural decline of broader commodity markets driven by oversupply and China reducing its iron ore demand as financial conditions tighten in the mortgage market, will add to AUD downside momentum. It should not take too long to see AUDUSD test its 0.7160 low reached in December 2016,” said Redeker.

Possible Upside Targets for GBP/AUD

Morgan Stanley do not undertake a technical analysis of the GBP/AUD pair but our own charts support the possibility of more upside potential for the pair, and thus Redeker’s bullish fundamental analysis.

The exchange rate has broken out of a large triangle on the weekly chart and although it has already travelled a good way it has not, arguably, yet reached the target, which is calculated by extrapolating 61.8% the height of the triangle at its widest point from the point of the break.

On GBP/AUD this gives a target at just above 1.8000, which also happens to be an important round-number target for the pair.

We, therefore, see a possibility of the pair moving higher to this target if it breaks above the 1.7665 highs.