Rate Forecasts: AUD, NZD, CAD, Oil, Gold

Commodity currencies have risen sharply since March as driven by rallies in commodity prices and improvement in risk investors. However, the double-digit rally has looked excessive given the actual economic conditions in those countries. In fact, an undue surge in a country's currency is negative for economic growth, especially when the country has high dependence on exports.

AUDUSD: Recent commodity-driven rally has overextended and Aussie is at the risk of having a pullback to below 0.75 in the near-term before rising again later this year. Recent indicators showed that Australia's economy has improved more rapidly than the market expected. In 1Q09, GDP expanded by +0.4% qoq while employment reports also delivered pleasant surprises. However, current situation does not warrant a rate hike by the RBA while this was suggested in the Aussie rate market.

The RBA kept interest rate unchanged at 3% for the second month at June's meeting as economic stimulus in many countries has helped containing global economic downturn and recent economic indicators have shown stabilization in declines. However, the central bank also noted 'the prospect of inflation declining over the medium term suggests that scope remains for some further easing of monetary policy, if needed'. The RBA will release minutes for June's meeting and any guidance on the interest rate path should be helpful in determining Aussie's outlook.

Morgan Stanley stayed 'selectively bearish' on AUDUSD based on concerns that Australia's economy was not as strong as anticipated and AUD's underperformance will be driven by 'domestic imbalances.' While Deutsche Bank noted that rise in government bond yield being offset by narrowing credit spreads is an indication of global economic recovery, AUDUSD's rise has already priced in the positive factor. Moreover, Deutsche Bank expected an end to commodities rally and hence believed commodity currencies are particularly vulnerable. HSBC said that 'The AUD has enjoyed a great run higher since March recovering half of its losses after its collapse mid 2008. While we believe that ultimately the AUD can hold onto its gains, we remain concerned there may be a short term reversal'.

NZDUSD: Similar to AUDUSD, the Kiwi has been pushed to unduly high level due to rises in commodity prices, increase in risk appetite and weakness in USD. At the same time, S&P's upgrade on New Zealand's outlook to 'stable' from 'negative' also helped pushing the currency higher. While a correction is likely in the near-term, as long as risk appetite is there and macroeconomic outlook continues to improve, downside of NZDUSD should be limited.

RBNZ Governor Bollard's latest comment about New Zealand's economic outlook was mixed. While seeing improvements in both domestic and overseas economies, the central bank revised downward its forecasts on growth and inflation. At June's projections, GDP is expected to contract -1.3% in fiscal 2010, followed by a growth of +3.2% in fiscal 2011. Moreover, the central bank decided to leave its policy rate unchanged at 2.5%, the first time since the easing cycle started in July 2008. However, RBNZ stated that 'the OCR could still move modestly lower over the coming quarters' and expected 'to keep the OCR at or below the current level through until the latter part of 2010'.

In fact rise in New Zealand dollar may delay or reverse the projected growth in export and is negative for the economy. RBNZ said in the accompanying statement of June's meeting that 'the recent rise in the New Zealand dollar creates an unhelpful tension with our projections. A stronger dollar at a time of weak global growth risks delaying or even reversing the projected increase in exports, putting the sustainability of recovery at risk'.

Barclays Capital stayed bullish in the long term, 'retail sales data carry some downside risk, but the global macroeconomic environment remains supportive of NZD'. HSBC believed risk appetite is the key driving factor for Kiwi's rally, 'we remain wary of any sudden pick up in risk aversion, which could then trigger a nasty correction lower in the currency'.

USDCAD: Although the chart above showed that, among the 3 commodity currencies, Canadian dollar has the least correlation with commodity prices, recent rally in CAD was in a great extent driven by surges in oil and base metal prices. Like AUD and NZD, CAD looks expensive to its fair value. However, unlike the RBA and RBNZ, BOC has cut interest rate to as low as 0.25%, making the CAD even more vulnerable to correction than other high-yield currencies.

The manufacturing sector has been hit hard amid global recession as well as strength in Canadian dollar. Annualized GDP contracted -5.4% qoq in 1Q09. Canada's economic prospect is uncertain while inflation projection is skewed to the downside. BOC particularly mentioned that the 'unprecedentedly rapid' rise in Canadian dollar, if persistent, could offset improvement in financial conditions, commodity prices and confidence.

HSBC believed CAD's upside is limited as 'with a lot of good news now priced into the CAD, the currency would be more vulnerable to bad news on the economy. Although the CAD has measurably outperformed our expectations, we expect the road to additional gains from here will prove much more difficult. Ultimately, we expect that the wave of enthusiasm and increased risk appetite will subside in a manner that will result in a pullback in the CAD'.

Goldman Sachs is among the minorities who are bullish on CAD in both the near- and medium-term. 'The Dollar and the oil price have been the main drivers of CAD and we expect these to continue to drive $/CAD lower in the near term. We still expect broad Dollar weakness in the near term on the scaling back of US rate expectations and, among other things, the continued speculation over reserve diversification'.

Crude Oil: Hinged on improved macroeconomic outlook and robust market sentiment, WTI crude oil price has rallied more than +40% since March. The Nymex contract for light, sweet crude oil has risen +63% since the beginning of the year. Although current price level of 70 is still 50% lower than all-time high of 147.27 achieved in July 2008, it seems not warranted as fundamentals have not yet displayed sold evidence on demand recovery or tightening in oil market. Crude oil inventory data in the US has been volatile as while recent data pointed to decline in stockpile, the total supply remains above historical average. Judging from the demand/supply information available, crude oil is subject to correction from current level.

While viewing forecasts upgrades by US Energy Department and International Energy Agency as supporting factors for fundamentals, Deutsche Bank said recent rally in crude oil price 'appear to have been divorced from he underlying fundamentals of weak demand ample supply and high inventories. Rising OPEC production and very high OPEC spare capacity also appear to be unimportant ot oil market investors this time. We understand the importance of the weak dollar, improving sentiment on the economy, and asset allocation glows, but we feel a word of caution is in order'. Morgan Stanley stated 'oil's correlation with equity markets is easing off its highs, but the negative correlation with the dollar is strengthening'. Moreover, 'Oil's rally is giving concern that it threatens the nascent economic recovery underway; we expect this concern to be an increasing headwind going forward'.

By contrast, Goldman Sachs raised its estimate to 85 and 95 for end-2009 and end-2010, respectively, saying 'the recent rally in WTI prices is likely to be but the first stage in the oil price rally that we expect will accompany a recovery in economic activity'. 2Q09 is a 'cyclical bull market as the economy stabilizes and OPEC maintains cuts to draw inventories to 10-year average levels while 1H10 is a 'structural bull market as long-dated prices rise to motivate renewed Non-OPEC production capacity investment while OPEC spare capacity returns to the market in an attempt to bridge the gap'

Gold: Gold price will likely continue to trade range-bounded before USD's broad-based weakness has resumed. Moreover, profit-taking by traders who have built speculative net long positions in gold futures will increase volatility in the precious metal in the near term. In the long-term, favorable factors for gold remains to be low interest rate environment and normalizing inflation expectative after massive QE policies by governments worldwide.

Goldman Sachs believed 'a weaker USD and ongoing concerns about debasement created by the substantial expansion of sovereign balance sheets has lent support'. At its report in May, Morgan Stanley stated 'with rising nominal risk to prices and currencies, gold's real value should lead ot increased demand the yellow metal..With a global recovery unlikely to be smooth the 2 main rises to most asset values are inflation and the USD -both of while are decisively gold positive'. Morgan Stanley forecast gold price to average at 1000/oz for calendar 2009, implying a price of 1060/oz over the rest of the year.