The markets still seem to favour AUD positions against USD, EUR and GBP but see the next leg lower in AUDUSD as the last. We look at possible long AUDUSD positions around 0.71 as we see the RBA shifting to tightening policy from H1 2018.
AUD Bears
The uninspiring Australian economy has to deal with a large output gap, a weak labour market and an overheated housing market that faces headwinds from a macro-prudential slowdown. These factors mean the RBA remain on the sidelines as their policy has to cater for opposing forces from the hot housing market, weak wage trends and little investment.
We see yield differentials working against the AUD as the RBA leave interest rates unchanged. Another important factor driving the next leg lower in AUD is the drop in iron ore of over 20% since the peak in March. The RBA noted that they view the rise in commodity prices as temporary and have shown concern over whether the improvement in terms of trade is sustainable. Iron ore prices should continue their trend lower and stay lower for longer as more supply enters the market from China and demand due to stockpiling diminishes.
Speculative positioning is long AUD. We expect to see these positions liquidated adding fuel to the next leg lower.
RBA Transition and a stronger AUD
For the RBA to begin to tighten policy they need to see CPI consistently beat 2% and a pick-up in wages. We expect growth to improve which will lead to wages and the labour market strength. These factors will allow the RBA to increase interest rates from H1 2018. Our constructive assessment on rates and the Australian economy are the base for our view of a stronger AUD. However, we would wait for positioning to adjust and the next leg lower in AUDUSD to complete before entering long positions.

The intermediate-term valuation of AUD is currently priced within the levels of 0.7480 and 0.76 where a breakout of the latter will provide momentum for our bull case on the AUD allowing it to reach upper-bound of range.
Daily AUD is also illustrative of the macroeconomic background that we are trading now and will be range-bound between 0.7150 and 0.78 until a clearer trend can be established as a result of value movement above or below these levels.

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