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Market Update: "Dollar dangerously overbought"

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Market Update: "Dollar dangerously overbought"  article image
Currency Market Update - 8 April 2011 Employment figures slightly stronger than expected, underscoring robustness of economy RBA decides to maintain interest rates at 4.75 percent with a markedly similar statement to after its March meeting EVENTS: The Australian Bureau of Statistics announced on Thursday morning that Australia’s unemployment rate fell to 4.9 percent in March from 5.0 percent in February. Total employment increased by a seasonally adjusted 37,800 to 11.457 million. Market analysts had expected 20,000 jobs to be added last month and for the unemployment rate to remain at five percent. The employment data follows on the heels of the RBA’s decision on Tuesday to keep interest rates on hold at 4.75 percent for a fifth consecutive month. The RBA’s April statement was very similar to its statement last month. The similarity of the last two RBA statements reflect the Bank’s confidence that current interest rate settings are appropriate for current economic conditions. IMPACTS: The release of the employment data saw the AUD soar to yet another 29 year high against the USD, reaching $1.0508 cents in late trading on Thursday. The AUD is currently trading at the top of our expected range of $0.9900-1.0500. We expect the AUD to run out of momentum and be capped at $1.0500. Whilst the employment data was slightly better than expected, the RBA signalled that growth in employment is likely to moderate in the short-term. CPI inflation data due towards the end of the month should offer a clearer indication of the direction in which the RBA will travel with interest rates. Any significant shift in inflation could recalibrate the Bank’s thinking on timeframes for potential rate increases. It should be noted, however, that the RBA has already acknowledged that the reconstruction efforts in Queensland could see short-term inflationary pressures. These pressures will continue to be contextualised by the RBA as it assesses the national inflationary environment. CONSIDERATIONS: The AUD has been driven higher recently on the back of M&A flows and a weakening of the JPY. This had led to a renewed focus on the carry trade, with the AUD appreciating almost 20 percent against the JPY since the earthquake and tsunami on 11 March. Thus far, the currency markets have ignored the previous risk aversion events this week, including the Portuguese Government’s request for an economic bailout from the EU and China increasing its interest rates by 0.25 percent. These events have passed without any significant movement in the AUD. With the AUD trading up to $1.05, the dollar is in dangerously overbought territory. Profit taking could see the AUD drop back to $1.035 as investors move to take some risk off the table. Against this backdrop, businesses that trade overseas, especially importers, need to ensure that they properly cover their currency exposure for when the AUD inevitably runs out of momentum. There has been increased speculation that the US Federal Reserve could raise interest rates this year to keep inflation in check. Federal Reserve Bank of Richmond President and former voting member of the Federal Open Market Committee, Jeffrey Lacker, noted this week that inflationary pressure has increased appreciably in the last six months. Any increase in interest rates in the US would reduce the gap in interest rates between the two countries and put downward pressure on the AUD. One additional issue of interest is the very real prospect of a shutdown of the US Federal Government triggered by a budgetary dispute between President Obama and the Republican Congress. A shutdown would result in a freeze of many Federally funded government services and the Federal payroll. The last US Federal Government shutdown in 1995 had negative ramifications on all sectors of the US economy. The ramifications of another shutdown could be impactful on the USD.

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