With U.S. markets closed on Monday for Independence Day, investors will have a lot to digest when the opening bell rings on Tuesday. As usual, performance in Europe and Asia will set the tone; today, all eyes will be on the Governor of the Reserve Bank of Australia, Glenn Stevens, as the interest rate decision is unveiled. Australia began the year with rates at 3.75%; after three consecutive rate hikes of 25 basis points starting in March, the nation now finds itself with key interest rates at 4.5%, among the highest in the developed world. However, much has changed in the world economy since the last rate hike in early May, including a new Australian prime minister.
The financial system has hit a rough patch, while growth in China–Australia’s largest trading partner–seems to be cooling off. That has set off fears across Australia that rates may have gone up too quickly in the economic cycle. “The RBA appears content to pause and assess the extent of slowing in the Chinese economy and whether sovereign concerns spill over to the real economy,” said Tim Toohey, chief economist at Goldman Sachs JPWere Ltd. in Melbourne. Due to these rapid changes in the world economy, as well as Australia’s role as the vanguard of developed market growth, look for Stevens’ decision to set the tone for the Australian dollar on Tuesday [also see High Beta ETFs To Bet On A Global Recovery].
While the country is widely predicted to keep rates steady, some are forecasting a rate cut in order to help jump-start the Australian economy, especially given rapidly deteriorating financial conditions in global markets over the past few weeks. “The Reserve Bank is fortunate that, unlike its peers in the rest of the advanced world, monetary policy is still a tool it can use, with plenty of scope for rate cuts to deliver stimulus to the economy” writes David Uren for the Australian. But others are not so sure given the current levels of inflation in Australia, currently at 3.6% and up 0.3% in June following a 0.5% increase in May.”Uncomfortably high inflation is one factor that suggests the market’s pricing of 40%-50% probability of an RBA rate cut by year end and about 8% probability of a rate cut tomorrow is absurd,” RBC Capital Markets Senior Strategist Sue Trinh said. Given these two diametrically opposed views, it will be interesting to see which path Stevens seems likely to choose not only tomorrow, but in the coming months as well [for more ideas see Three Long/Short ETF Ideas For the Second Half Of 2010].
Look for the ETF tracking the Australian dollar, the Rydex CurrencyShares Australian Dollar Trust (FXA), to be in focus throughout Tuesday trading. After surging for much of last year, FXA has slumped back in 2010, posting a loss of 6.4% since the beginning of the year. The fund pays a good dividend yield of close to 2% and charges an expense ratio of 0.40% [also see Warning: Use Caution When Investing In Currency ETFs Of Commodity Dependent Nations].
Disclosure: No positions at time of writing.