AUD/USD drifted down towards 0.6900 in Asian trade on Friday as the US Dollar firmed on expectations of US rate hikes later this year. Attention later in the session turns to the Michigan Consumer Sentiment Index report, which could add to near-term volatility in the pair.
US inflation accelerated in May, with the headline Personal Consumption Expenditures (PCE) Price Index rising 4.1% YoY from 3.3% in April, according to the US Bureau of Economic Analysis (BEA). Core PCE, the Federal Reserve’s preferred gauge, increased to 3.4% YoY from 3.3%, marking the highest annual core PCE reading since October 2023. In Australia, labour market data offered some counterweight: the Unemployment Rate eased to 4.4% in May from 4.5% in April, the Australian Bureau of Statistics (ABS) said, matching market consensus.
US Dollar Strength and Implications for AUD/USD
We are seeing the US Dollar gain strength due to persistent inflation, putting direct pressure on the AUD/USD exchange rate. The headline PCE price index rising to 4.1% is a significant development that keeps the Federal Reserve in a hawkish mode. For now, this makes any long positions on the Australian Dollar a risky proposition.
Current market pricing from the CME FedWatch Tool indicates a greater than 70% probability of at least one more rate hike from the Federal Reserve by its September meeting. This market expectation is the primary force pushing the AUD/USD pair down towards the 0.6900 level. This strong sentiment for a higher US interest rate will likely cap any significant rallies in the pair.
On the other side, Australia’s strong labor market, with unemployment falling to 4.4%, provides a solid floor of support for the Aussie. The Reserve Bank of Australia is also still battling its own inflation, with the board recently stating it remains “resolute in its determination to return inflation to target.” This prevents a complete collapse of the currency and suggests a grinding move lower rather than a sharp drop.
Trading Strategies and Key Market Drivers
Given this dynamic, we should consider buying put options on the AUD/USD to profit from further downside. This strategy allows us to capitalize on a falling market while strictly limiting our potential loss to the premium paid. It is a prudent approach considering the underlying support for the AUD could cause sharp, unpredictable bounces.
Alternatively, for those expecting a slow decline or range-bound trading, selling out-of-the-money call spreads could be effective. One-month implied volatility for the pair has ticked up to around 9.8%, making the premiums received from selling options more attractive. This strategy profits if the AUD/USD pair stays below a certain level.
We must also watch key commodity prices, as they are a major driver for the Australian dollar. Recent prices for iron ore, a critical Australian export, have softened to below $110 per tonne amid concerns about global demand. This external factor adds another layer of resistance for the Aussie, reinforcing our bearish bias in the coming weeks.
