GBP/AUD supported near 1.75 short-term May retest 1.78 if AUD/USD eases furtherAUD/USD could ease lower with NZD/USD If RBNZ disappoints market’s expectations

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The Pound to Australian Dollar exchange rate fell toward the bottom of a fortnight-long range early in the new week but could be likely to retest the top of that band up around the 1.78 handle in the days ahead.

Pound Sterling was left wallowing in widespread losses on Tuesday after the May series of IHS Markit’s Flash PMI surveys hinted of a darkening outlook for the manufacturing and services sectors, which are both linchpins of the domestic UK economy.

But losses relative to the antipodean currencies were more limited than those sustained in relation to other counterparts and there’s a chance, if not a likelihood, that the latter half of the week could see the Pound to Australian Dollar rate recovering some recently lost ground.

“The UK economy is clearly more directly exposed than Australia’s to the impact of the war. The BoE forecasts a miserable 0% ‘growth’ pace over the next year, given “the significant adverse impact of the sharp rises in global energy and tradable goods prices on most UK households’ real incomes and many UK companies’ profit margin,” says Sean Callow, a senior FX strategist at Westpac.

Above: Pound to Australian Dollar rate shown at daily intervals with Fibonnaci retracements of extended decline provoked by Russian invasion of Ukraine in February indicating possible short-term areas of technical resistance for Sterling. Click image for more detailed inspection.

“The surge in AU yields has boosted its pickup versus GBP to multi-year highs. This yield support should help AUD/GBP rally to above 0.5800 (GBP/AUD down to 1.72) in Q3 and beyond. But near term, the poor global risk mood including concern over Chinese growth suggests the pair spends some time below AUD/GBP 0.5600 or above GBP/AUD 1.78,” Callow also said on Monday.

Callow and colleagues have a bearish medium-term outlook for GBP/AUD owing in part to the Australian economy’s more favourable prospects and the implications for the Reserve Bank of Australia (RBA) interest rate outlook.

But they also see the recently soured mood in global financial markets as an upside risk that could see GBP/AUD trading higher in the weeks ahead, and there’s a chance that view could be realised in part as early as this week.

Source: Westpac.

This is in part because there is a risk that economic growth concerns and other factors could impact Reserve Bank of New Zealand’s (RBNZ) forecasts for the Kiwi economy and cash rate in a way that disappoints aggressive market expectations as soon as this Wednesday.

“Our ASB colleagues are looking for a (fully priced) 50bp RBNZ hike, but the path from here is for a moderation in moves. July is priced for another 40bp, while August has a further 34bp of hikes priced in,” says Martin Whetton, head of fixed income and currency strategy at Commonwealth Bank of Australia.

The RBNZ lifted its cash rate by 0.50% for the first time in more than two decades in April but most pertinently ahead of this Wednesday’s decision, it also indicated strongly that further steps of that magnitude are far from assured.

Source: Commonwealth Bank of Australia.

This is relevant because financial markets are betting heavily that the RBNZ cash rate will rise to 2% on Wednesday and to 2.5% in July, with further increases then seen taking it to 3.25% or more before year-end.

That’s further relevant because AUD/USD and NZD/USD tend to have a strong positive correlation, in part because each accounts for a meaningful share of the other’s overall or trade-weighted currency index, while AUD/USD and NZD/USD both often demonstrate a negative correlation with GBP/AUD.

The implication is that if the RBNZ disappoints lofty market expectations on Wednesday then it could weigh on both NZD/USD and AUD/USD while lifting GBP/AUD and GBP/NZD in the process.

The currency strategy team at Commonwealth Bank of Australia disagrees, however, and instead looks for the Kiwi to benefit from the anticipated 0.50% increase in the cash rate and suggested this Monday that clients of the bank bet on a subsequent rally in NZD/USD.

“A faster move towards restrictive monetary policy settings will underpin a firmer NZD/USD and lead to a flattening in New Zealand’s bond curve. Investors should consider buying NZD/USD,” says Elias Haddad, a senior currency strategist at CBA, writing in a Tuesday market commentary.

Above: AUD/USD at daily intervals with Fibonacci retracements of April decline indicating possible areas of medium-term technical resistanc. Shown alongside AUD/NZD, AUD/CNH and an inverted or upside Dollar-Renminbi rate (black line); each and all key parts of the trade-weighted Australian Dollar index. Click image for more detailed inspection.