It looks like I was wrong. The unforeseen collapse in inflation, a free-fall in business conditions and erratic consumer sentiment means that the RBA will not be hiking interest rates any time soon. It may even cut rates such was the extent of the disinflation impetus that came through in the March quarter CPI.
I don’t think the RBA will actually pull the trigger on a rate cut, but it looks like my long held view that the RBA would be hiking interest rates in the September and December quarters is redundant. With the weight of new news, I am changing my view.
Linked to my hawkish rates view, I was also very upbeat on the Aussie dollar late last year calling 0.77 by mid 2016. Having been pretty much spot on with that call, albeit it a little premature in terms of speed of the AUD appreciation, it is time to get prudent and look for a short term pull back after the wonderful Aussie dollar rally.
The good news for me is that the trades from late 2015/early 2016 have been highly profitable. With interest rate cuts continuously being priced into the November and December 2015, as well as the February, March and April to varying degrees, the fact that the RBA held rates steady meant a nice 5 to 15 basis point profit each and every month. I have closed out the remaining May to September positions at about break even given they were placed when more than one rate cut was priced in, which is similar to where the market is trading after the March quarter CPI.
I will look to re-enter a rates trade when the time is right, most importantly when the market pricing of RBA policy looks to be wrong.
On the Aussie dollar, the long position at an average of around 0.7120 from late 2015 / early 2016 was hugely profitable. This was closed out in early April at an average of around 0.7600.
In the immediate aftermath of the March quarter CPI, I went short the Australian dollar at an average around 0.7650 and I have a target in the low 0.70s or perhaps a touch lower. As with all trades, they will be closely watched.
So there you go.
The bottom line from here is a call where the RBA is still likely to be on hold at 2.0 per cent for as far as the eye can see, but with a significantly elevated risk that the staggeringly low inflation rate will see it cut rates. There are no trades to be had at the moment. There is little obvious risk / reward in being in this market right now.
For the Aussie dollar, it is a simple short at 0.7650, even though the odds favour a medium term run higher through 0.8000, perhaps near year end. For now, it looks like a dip first.
For the economy, there is nothing much to change in the view that real GDP growth is likely to stay around 3 per cent through 2016 and into 2017 and for the unemployment rate to be biased towards 5.5 per cent. These numbers are little changed from six months ago.
So, the forecasting error I made was on inflation which now looks most likely stuck at or below 2 per cent for some time. While this is the case, I would not fall off my chair if the RBA was to cut interest rates in the not too distant future. Quite plainly, as an inflation targeting central bank, the RBA now has no need to hike.