FxWirePro: Apprehensive Aussie Ahead of RBA – AUD Trading & Hedging Strategies

The AUD, as a proxy for global risk sentiment, will continue to be buffeted by coronavirus concerns. For Aussie, this week, the major data event has been RBA monetary policy in addition to Aussie trade balance and US unemployment & non-farm data.

Well, we expect two further RBA rate cuts, in April and August, taking the cash target to 0.25%, followed by a small but open-ended ACGB purchase program. 

Amid such data events, Most of Aussie pairs retains downward momentum, with AUDUSD sees the next target at 0.6670 level, AUDNZD gained a bit but capped below 1.0369, while AUDJPY is one pair that looks to be extremely weaker for us, tumbled to 72.407 during Asian session but gained quietly though, currently trading at 72.598 levels on oversold sentiment.

Will the Australian central bank’s (RBA) rate decision tonight provide a surprise? Amongst market participants and amongst the analysts polled by Bloomberg a majority expects key rates to remain on hold at 0.75%. Principally the view dominates that the RBA will cut its key rates again this year, but at a later date. 

Following its last meeting in December the RBA signalled its willingness to ease monetary policy further, should the outlook for growth, inflation and employment deteriorate. The corona virus pandemic could have negative economic effects for China, Australia’s most important trade partner. 

Moreover the devastating and unparalleled bush fires are also likely to have left their marks on economic growth, as activity in the sectors of tourism and mining for example is likely to have been affected.

Hence, we consider it likely that the rise in uncertainty might cause the RBA to act now, in particular as this would constitute a sign of support for the areas worst affected by the fires at the same time. The development of inflation remains satisfactory and also provides scope for a rate cut. The depreciation trend in AUD is likely to continue regardless of whether the RBA cuts interest rates or nor. 

First of all the RBA is likely to sound concerned about the economic outlook and therefore sound more dovish. 

Secondly there is high uncertainty as to how the corona virus epidemic develops and the effects for China are currently impossible to gauge. That means times are likely to remain difficult for AUD.

Trading & Hedging Setup

As RBA is scheduled for their monetary policy meeting for this week, the Aussie central bank turned more dovish. Increase AUD shorts via bearish AUDJPY put spread, part financed by selling AUDNZD topside looks to be more attractive.

The strategy reads this way, buy a 3m AUDJPY put spread (72.0/69.5) (spot ref: 73.2); sell a 3m 1.0975 AUDNZD call (spot ref: 1.0820). Paid 0.38%.

On hedging grounds we have advocated shorting futures contracts of AUDUSD and AUDJPY of mid-month tenors as the underlying spot FX likely to target southwards below 0.67 and 72 levels respectively in the medium run. Writers in a futures contract are expected to maintain margins in order to open and maintain a short futures position.

While diagonal put spreads are also advocated to mitigate the downside risks of AUDUSD with a reduced cost of trading.

The combination of AUDUSD’s short-term potential to hit 0.70 and fails from there onwards amid lower IVs is luring for the OTM put options writers. While the medium-term perspective is attractive for bearish hedges via ITM puts.

Thus, the execution of options strategy goes this way, add long in 2 lots of delta long in 3m (1%) ITM -0.79 delta put options, simultaneously, short 2w (1%) OTM put option with positive theta (position seems good even if the underlying spot goes either sideways or spikes mildly).

We also intend to hold a AUDCHF put spread (the option switch also embeds a bearish slant on NZD as we funded it by selling a AUDNZD put). Courtesy: JPM & Commerzbank