AUD/USD outlook supported by rallying metals and Chinese markets

• AUD/USD outlook could be boosted as Iron Ore extends rally, up another 2% today
• US dollar catches mild bid amid hawkish Fedspeak ahead of FOMC minutes
• AUD/USD technical analysis shows rates testing a key support level circa 0.6650

The US dollar edged higher in the first half of Wednesday’s session, following several hawkish-leaning remarks from Fed officials and amid a lack of any major data. Only the British pound and the New Zealand dollar were showing modest gains against the greenback, owing to stronger-than-expected CPI data for the former and a hawkish RBNZ for the latter. The yen, franc and euro all weakened, as too did the Australian and Canadian dollars. With Fed officials remaining cautious about inflation, tonight’s release of the FOMC’s last meeting minutes is expected to unveil a more hawkish tone. But this should be expected, which may mean a more muted reaction in FX. In any case, I am expecting the dollar to head lower again, especially against antipodean currencies where monetary policy is expected to remain unchanged longer than in the US. The recent upsurge in metals prices should keep the Australian dollar supported, more so now with Iron Ore prices hitting their highest levels since February. What’s more, the ongoing risk rally across asset classes argues against a significant drop in risk-sensitive commodity dollars anyway. So, my AUD/USD outlook remains bullish despite its struggles so far this week.

AUD/USD outlook: Iron ore extends rally can only be good news for Aussie

The Aussie dollar has given back about half of the gains made the week before. But key commodity prices like copper and iron ore remain supported. Iron Ore prices have rallied another 2% today to reach their best levels since February, thanks in part to strong demand from China:

Source: StoneX

Australia is by far the world’s largest exporter of iron ore and is the fourth largest exporter of copper. Meanwhile, sentiment towards Chinese stocks remains positive with the China A50 index rebounding after a two-day drop to remain near its yearly highs. Given that China is Australia’s largest trading partner, these factors should keep the Aussie supported on the dips.

What’s more, the AUD and NZD tend to move in tandem, and with the NZD/USD finding support from a hawkish Reserve Bank of New Zealand (RBNZ) meeting overnight, this argues against a sharp drop in the AUD/USD exchange rate. In a surprising move at its latest monetary policy meeting, the RBNZ indicated that interest rates might need to rise again, with cuts being postponed. The RBNZ is determined to curb inflation, even at the cost of economic growth. This unexpected hawkish stance caused the New Zealand dollar to surge. While the Reserve Bank of Australia is a little less hawkish, it too remains far from cutting interest rates.

Hawkish Fed commentary keeps dollar bears at bay

The US dollar, which has remained stable over the past few days following last week's data-driven sell-off, has found support thanks to hawkish comments from Federal Reserve officials. Yesterday, Raphael Bostic cautioned against anticipating an early rate cut and warned about overreaction after the first cut. Meanwhile, Governor Christopher Waller noted that inflation seems to be easing, suggesting no further rate hikes are needed. However, Waller emphasized he would need convincing data before supporting any rate cuts soon, stating he wants to see "several more months of good inflation data" before considering an easing policy, unless there is a "significant" downturn in the labour market.

The recent remarks from Fed officials imply that a rate cut before the end of the summer is unlikely. But this more or less aligns with market expectations, which explains the lack of a more significant rally in the dollar this week.

AUD/USD outlook: Soft US data reduces need for prolonged tight policy

Despite recent caution from Fed officials due to persistent inflation, the US dollar has not been able to rise to its lofty levels of April and remains in the negative for the month of May, after its recent sell-off that was triggered by weaker-than-expected economic data. So, there is a chance it could resume the downtrend as we get into the second half and business end of the week.

This month's economic reports have largely been disappointing, including the monthly job figures, forward-looking manufacturing and services PMIs, as well as data on retail sales, building permits, and housing starts. Even the inflation data came in slightly cooler.

With the US economy clearly weakening, it is becoming increasingly difficult to maintain a bullish stance on the dollar, especially after its gains in the first four months of the year against a basket of foreign currencies. If the trend of disappointing data persists, it could suggest a more rapid easing of inflation, reducing the need for prolonged tight monetary policy. So, there is a risk that the Fed might be behind the curve.

FOMC minutes coming up

Attention now shifts to the minutes from the May FOMC meeting, which will shed light on the Fed’s perspectives on inflation. During that meeting’s press conference, Fed Chair Powell indicated that another rate hike this cycle was unlikely. The minutes will provide a more detailed insight into the Fed's assessment of inflationary risks. This comes after several Fed officials have emphasised the need for maintaining high interest rates for an extended period to control inflation.

AUD/USD outlook: Technical analysis

Source: TradingView.com

The AUD/USD was testing the breakout area of 0.6650 at the time of writing. Given that only a few days ago it tested its highest levels for the year, the trend is clearly positive on the Aussie. Given everything I mentioned above from a macro point of view, I would be on the lookout for a bullish candle to form around current levels, which, if seen, would be an indication that rates are ready to resume higher again.

Video: AUD/USD outlook and insights on precious metals

-- Written by Fawad Razaqzada, Market Analyst

Follow Fawad on Twitter @Trader_F_R

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