- Heightened investor anxiety pummel AUD

- RBA pumps liquidity into domestic market

- Stabilisation in global stock markets could offer near-term support

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- Spot GBP/AUD at time of writing: 2.002, +2.26% this week

- Bank transfer rates (indicative): 1.9320-1.9460

- FX specialist rates (indicative): 1.9700-1.9840 >> More details

The spot Pound-to-Australian Dollar exchange rate has moved back above the 2.0 level ahead of the weekend, amidst an ongoing selloff in the Australian Dollar.

The Australian Dollar is one of the main casualties of the rout in investor sentiment that we are currently witnessing, with international investors looking to sell their holding of Australian assets as coronavirus fears grip global markets.

The Australian Dollar has a strong relationship to investor sentiment, rising when investors are bullish but falling when investors are scared. A look at the Fear and Greed Index - a measure of global investor sentiment - shows the global investor community is witnessing rock-bottom sentiment.

Image courtesy of CNN

The Aussie Dollar's traditional relationship with sentiment is meanwhile reflected in the currency's chronic underperformance, as highlighted by the below graphic:

Above: AUD performance for the week ending March 13.

Some stock markets saw their worst one-day selling since 1987 on Thursday, with moves in the Australian stock market being particularly volatile over the course of the past 24 hours.

The ASX 200 index has plummeted in the region of 30% since the highs of February, a move that has corresponded with an outflow of foreign capital from Australia which has added to Australian Dollar downside pressures.

Key to the Aussie Dollar's outlook is whether Australian and global investor sentiment is able to stabilise. Thursday saw the ASX 200 dip 11%, while on Friday it did stage a recovery after it lifted 10% from its earlier lows, a recovery that corresponds with a firming in the Aussie Dollar.

The Australian-U.S. Dollar exchange rate fell a sizeable 3.0% on Thursday and has since stabilised around 0.63 at the time of writing. The Pound-Australian Dollar rose 1.0% on Thursday and further gains on Friday take it to 2.004, but despite some stability, momentum remains pitted against the Australian currency.

Above: GBP/AUD uptrend firmly intact

If the market situation stabilises further there is the prospect for some further stabilisation in the Australian Dollar, but we would only bet on a fully-fledged recovery in the currency should the fundamental backdrop surrounding the coronavirus turn more positive.

The general expectation remains that the coronavirus outbreak in Western economies will get worse before it gets better, but short-term market sentiment appears to be focussed on Australian and global central banking authorities and their response to the evolving crisis.

Of particular concern over the past 24 hours has been a significant global cash crunch - it appears bond markets have seen liquidity dry up, which has in turn sparked a huge and sudden demand for the U.S. Dollar which is the global reserve currency.

This saw the AUD/USD pop, which in turn put downside pressure on the Aussie Dollar against a host of other currencies.

However, the reaction of central banks to this liquidity crunch appears to have been judged as adequate, and is one reason why global markets are looking firmer on Friday and why the selling pressures on a wounded Aussie Dollar appear to be abating.

"The U.S. Federal Reserve took measures to inject significant cash into the Treasury market, where yields were rising due to a lack of liquidity despite investor flight to safety. The Bank of Japan and Reserve Bank of Australia joined the Fed in adding liquidity to markets," says Hann-Ju Ho, an economist at Lloyds Bank.

In a bid to counter possible funding crunches as investors panic over the coronavirus, the Reserve Bank of Australia (RBA) on Friday pumped $5.6BN into the financial system via repurchase operations, which is more than twice the amount it had originally intended.

Global bond markets have come under pressure amidst the market meltdown, with reports from Australia are that foreign holders of Australian government bonds were selling to repatriate cash to where they are domiciled. This forced the yield on Aussie bonds higher, creating cash crunches in the domestic market.

The RBA stepped in to temporarily buy government bonds from main dealers, such as banks, and in the process they injected temporary liquidity into the market.

The response by the RBA and other global central banks is seen as one reason why markets have stabilised. However, the outlook remains negative for global markets and the Australian Dollar as a real turnaround in fortunes will only likely come once the coronavirus pandemic turns a corner.

"Governments and central banks are responding by deploying both fiscal and monetary stimulus. It includes the RBA cutting the cash rate last week and yesterday’s stimulus package from the Australian Federal Government. While these measures will provide some offset from the adverse shock on the economy from the coronavirus, it is unlikely to avert a recession in Australia. Australia has not witnessed a recession in nearly 30 years," says Besa Deda, Chief Economist at St. George Bank in Sydney.

The Australian economy is being forecast to enter its first recession 30 years by local lender Westpac Bank, a prediction that if correct would likely entrench an ongoing spell of Australian Dollar weakness.

Westpac says the Australian economy will contract by 0.3% in the March quarter and the June quarter in 2020.

"Growth in the second half is forecast to lift by 2.2%. This constitutes a technical recession although with the expected recovery the unemployment rate is unlikely to lift much above 6%," says Westpac Economist Bill Evans.

The predictions come amidst a global economic slowdown linked to the outbreak of the coronavirus which has seen countries like China and Italy initiate quarantine measures to contain the spread of the virus, but a side effect of these measures have a sizeable negative impact on economic activity.

"The economy will be dealing with the impact of the virus when it is in a relatively fragile state with growth in 2019 at 2.2% compared to potential of 2.75%," says Evans.

However, Westpac expect growth to recover in the second half of 2020 as the global economy finds its footing once more.

"Given the expected recovery in the second half of the year it is much more realistic to characterise the situation as a 'major disruption' to growth rather than the style of recession that Australia has experienced in the past. Indeed, recall that in Australia’s last two recessions the unemployment rate lifted from 6% to around 11%," says Evans.