AUD: Don’t fret the fall in iron ore

Iron ore dipped around 10% over the past five sessions and is now trading below USD70 a tonne – the lowest level in almost two months, following weakness in the steel market, as the heavy losses in the futures market in China along with some softening in China’s growth numbers finally weighed on the physical market, explains the analysis team at ANZ.

Key Quotes

“This has yet to have an impact on the AUD. On a short term basis, the correlation between the AUD and iron ore remains well below its historic average (at less than ~0.05% on a 50-day sample vs an R-squared of 0.8% over a five-year sample). The low correlation between the AUD and the price of iron ore is not uncommon, meaning that this loose relationship may last for some time.”

“Further, even if commodity prices regain their grip on the AUD, the impact of the dip in iron ore prices will still be contained. Using the beta estimated on a five-year sample, our short-term model suggests that lower iron ore prices (in the range of USD65 a tonne) should shed only around two cents from the current level.”

“While on a technical basis iron ore remains vulnerable to further near-term falls, and the peak in Chinese demand for steel will continue to keep prices under pressure; our Commodity Strategist is not bearish on the medium-term outlook and expects iron ore prices to stabilise around the mid-sixties over the medium-term.”

“As such, while moves in iron ore may drive some near-term volatility in the AUD, we don’t expect the impact to be large or persistent.”

“In addition, we think a number of other factors will continue to be supportive of the AUD at least in the near term. Domestically, the improved outlook for growth suggests the RBA may soon be joining other central banks on the ‘tightening’ bandwagon. This implies that spreads will be more supportive of the AUD as the RBA joins the Fed in tightening.”

“Finally, sentiment in financial markets continues to remain boosted by low volatility and the positive outlook for global growth – and this too is supportive. We believe these last two factors should provide a solid offset to any further marginal decline in commodity prices.”

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