Trading the News: Reserve Bank of Australia Interest Rate Decision

What’s Expected:

Time of release: 11/01/2011 3:30 GMT, 23:30 EST

Primary Pair Impact: AUDUSD

Expected: 4.75%

Previous: 4.75%

DailyFX Forecast: 4.75%

Why Is This Event Important:

The Reserve Bank of Australia is anticipated to keep the benchmark interest rate at 4.75%, but the statement accompanying the rate decision could weigh on the exchange rate should the central bank show an increased willingness to scale back the rate hikes from back in 2010. As the isle-nation faces a slowing recovery, we may see Governor Glenn Stevens continue to soften his hawkish tone for monetary policy, and the central bank head may talk up speculation for lower borrowing costs as growth and inflation falter.

According to Credit Suisse overnight index swaps, market participants see an 89% chance for a 25bp rate in November, while borrowing costs are expected to fall by more than 100bp over the next 12-months. However, we may see the RBA endorse a wait-and-see approach for the remainder of the year as the region continues to benefit from global trade, and the central bank may carry its current policy into the following year as the economy is expected to benefit from the rebuilding efforts from the Queensland floods.

Recent Economic Developments

The Upside

The Downside

The expansion in private sector activity paired with the rise in global trade instills an improved outlook for the isle-nation, and hawkish comments from the RBA may lead the AUD/USD to retrace the decline from the record-high (1.1078) as market participants scale back expectations for a rate cut. However, easing price pressures may lead the central bank to abandon the ‘mildly restrictive’ policy stance, and Governor Stevens may show an increased willingness to scale back the cash rate from 4.75% in order to encourage a sustainable recovery. In turn, the AUD/USD may give back the sharp rally from earlier this month, and the exchange rate may fall back towards the 23.6% Fibonacci retracement from the 2010 low to the 2011 high around 1.0370-1.0400 to test for near-term support.

Potential Price Targets For The Rate Decision

How To Trade This Event Risk

Trading the given event risk may not be as clear cut as some of our previous trades as we expect the RBA to keep the benchmark interest rate on hold, but hawkish comments from Governor Stevens could pave the way for a long Australian dollar trade as market participants weigh the prospects for future policy. Therefore, if the central bank head talks down speculation for lower borrowing costs, we will need to see a green, five-minute candle following the announcement to generate a buy entry on two-lots of AUD/USD. Once these conditions are met, we will set the initial stop at the nearby swing low or a reasonable distance from the entry, and this risk will establish our first target. The second objective will be based on discretion, and we will move the stop on the second lot to breakeven once the first trade reaches its mark in an effort to protect our profits.

In contrast, the slowing recovery in the isle-nation may lead the RBA to strike a dovish outlook for monetary policy, and the central bank may look to abandon its ‘mildly restrictive’ stance as growth and inflation falter. As a result, if Governor Stevens shows an increased willingness to scale back the interest rate from 4.75%, we will implement the same strategy for a short aussie-dollar trade as the long position mentioned above, just in reverse..

Impact that the RBA Interest Rate Decision has had on AUD during the last meeting

October 2011 Reserve Bank of Australia Interest Rate Decision

As expected, the Reserve Bank of Australia kept the benchmark interest at 4.75% in October, but went onto say that inflation is ‘more consistent’ with the 2 to 3 percent target range as the region faces a slowing recovery. In turn, the RBA noted that easing price pressures would ‘increase the scope for monetary policy to provide some support to demand, should that prove necessary,’ and reiterated that the economic recovery ‘is unlikely to be as strong as earlier expected’ as private sector activity cools. As the central bank continues to soften its hawkish tone for monetary policy, we may see Governor Glenn Stevens show an increased willingness to scale back the rate hikes from back in 2010, and speculation for lower borrowing costs may gather pace over the near-term as growth and inflation falter. The Australian dollar traded lower following the announcement, with the AUD/USD slipping back below 0.9500, but the high-yielding currency regained its footing throughout the day as the exchange rate settled at 0.9568 at the end of the day.

--- Written by David Song, Currency Analyst

To contact David, e-mail dsong@dailyfx.com. Follow me on Twitter at @DavidJSong

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