DB FX Daily: Exiting AUD/USD Short Position - for Now

[RTFX-Trading]

FX Daily: Exiting AUD/USD Short Position - for Now

Exiting AUD/USD Short Position - for Now

A week ago we lowered the stop loss level on our AUD/USD short recommendation to the initial entry point of 0.7815. The ongoing return to favour of FX carry trades in the past two days has seen this level breached, and we hence now exit the trade. Our view has been that a "V" shaped bounce to FX carry trade returns was unlikely, although this is what has been witnessed to some extent. Given that such a quick bounce is not the historical norm, we do not view an extension of the current rally as the most likely outcome. As the first chart below shows, the recovery from the major carry drawdown seen in the first half of last year does appear to now be tracking quite closely the "average" path of carry recoveries, and this would imply a flattening out in the rally of the past couple of days from here. And we continue to think that following 8 years of positive returns, the risk skew around this path is heavily to the downside. By the same token though, the momentum that has developed in the past couple of days makes us cautious about trying to call a peak right here, so we will be looking for evidence that the current rally is petering out before re-entering AUD/USD shorts.

US Inventory Cycle Still a Negative for AUD

More medium-term, while the US employment report was attracted most of the attention on Friday, the wholesale sales and inventory report also has important implications for AUD/USD. As we have pointed out in our research previously, periods where inventory accumulation outpaces sales growth have tended to be associated both with weakness both in US manufacturing indicators such as the ISM report. Given the relationship between AUD and the ISM index, it is therefore not surprising that the inventory cycle is also an important indicator of AUD/USD. Friday's wholesale trade data reported a 0.7% mom rise in inventories and a 0.9% mom fall in shipments in January. As can be seen in the second chart below this continues to indicate medium-term downward pressure on AUD/USD is likely to be down. We therefore remain bearish on the medium-term outlook for AUD/USD, and would suspect any move in AUD/USD towards 0.79 will likely providing a good entry point for AUD/USD shorts given that the 0.80 level continues to provide stern resistance.