AUD/USD: Slightly Higher After Shanghai Noon

AUD/USD traded higher overnight during US hours on the back of a weaker USD. Price traded lower during Asian session, in line with the general risk asset movement that was spooked by the incredible decline in Shanghai Composite Index, which shed more than 5% at one point during the afternoon. However, the recovery in Chinese stocks was equally stupendous, as rumors circulated around the market that People’ Bank of China would be announcing the countermeasures to recent spike in rates. Shanghai Composite traded back up, closing a mere 3.52 points lower – clawing back a more than 100 points deficit in 2 hours. This rumor also spurred AUD/USD, with price trading back above 0.925 resistance, invalidating the bearish pressure that was in play following the earlier break which exposed 0.915 support.

This rally makes sense, as Australia’s exports are mostly purchased by China. A positive move by PBOC, if true, would certainly benefit the Chinese economy and hence help the beleaguered Aussie economy indirectly. A better outlook for Australia would equate to a stronger AUD, especially since it will deter Reserve Bank of Australia to continue current path of rate cuts. This argument seems reasonable, but upon closer inspection it doesn’t stand. The rumored PBOC intervention is only to address recent spikes in repo and credit rates, and has nothing to do with stimulating the greater Chinese economy – that PBOC’s Governor Zhou has mentioned previously that they do know that growth in China is expected to be slower, and they are ok with that. Furthermore, the spike in rates happened on Thursday and Friday, both days on which AUD/USD were relatively stable. Hence we can see from empirical observation that AUD traders are not affected by this issue. Looking across all risk assets, it seems that most Risk Currencies and Stocks both reacted favorably to the rumors, which suggest that the rally in AUD/USD is not directly linked to China economy but just the spillover of the return of risk appetite. What this imply is that the correction that we’ve seen has a higher chance of being a one-time adjustment, rather than changing the overall sentiment of AUD/USD.

Hourly Chart

Looking at technicals, AUD/USD is currently trading in a widening wedge, with current price entering the 0.925 – 0.93 trading range which is just under the 38.2% Fib retracement from the Fed’s QE3 Tapering decline. The widening wedge suggest that volatility is increasing, and should price fail to break the 0.93 and 38.2% Fib, the pullback even if overall sentiment remains flat could be strong. Current Stochastic levels suggest that bullish cycle hasn’t ended, with both Stoch and Signal lines still a far distance from the Overbought region, which supports the case for a test of 0.93 and 38.2% Fib.

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Daily Chart

Weekly Chart shows similar overhead resistance, in this case in the form of the descending Channel bottom. However, unlike short-term chart that shows that Stochastic readings may be likely to hit Overbought when 0.93/38.2% is hit, in this case Stochastic reading is likely to show a bull cycle signal should price manage to push itself within the Descending Channel. However, even in such a scenario, it may be too early to determine that price can test the top of Channel immediately considering that price has failed to test the Channel Top on the previous 2 occasion we trade within it, with price finding resistances mid Channel. Stochastic readings also did not hit Overbought on either of the occasions. Lastly, there is a divergence spotted between higher stoch peaks and lower price tops. This seriously impairs any bullish signals that Stochastic readings show and hence traders need to be extra careful when using them.

Original post

Written By: Mingze Wu