At the start of the week RBA’s Deputy Governor Debelle signaled little urgency to take measures that would seriously weaken the AUD. Debelle did say that ‘negative rates are possible’. This did send AUDUSD under 0.72. However, taking the speech as a whole means the AUDUSD is likely to show dip buyers as it goes back down.

The Reserve Bank of Australia’s focus on the very short end of the bond market makes the way for longer end yields to rise higher and that should support the Australian Dollar. The AUD 10 Year bond now pays around 20bps more that US Treasuries. If you take a look at the chart below you can see the yield spread between the AUD10Y and the US10Y bond. It is the blue line on the chart. This is the yield of the Australian 10 year bond minus the yield of the US 10 year bond. This is called the ‘yield spread’ and it is an important indicator. When the AUD bond yields more than the US 10 year bond you can see the AUD strengthen against the AUDUSD. Look at the chart below with the overlay of the yield spread and the AUDUSD chart which is a candlestick chart.

Taking a look at the yield spread from 2018 to 2019 you can see that the yield spread between the AU10Y and the US10Y was offering a discount. It was sub 0.00 as highlighted on the chart below.

The spread remains in positive territory now which means that AUDUSD buyers should remain buying on dips on falls back down towards this years lows. It is just a question of how deep those dips will be which is very hard to gauge at the moment after the recent sell offs. However, the RBA’s yield curve control should continue to support AUD strength as they need to encourage foreign investors to buy their bonds. Policy makers will want to keep a high enough yield to incentivise foreign investors. This means that the AUD is well placed to pull out strongly from any further risk off falls if/when the rebound comes. The recent lows down at 0.5400 look like a reliable bottom as long as the positive yield differentials remain.