Australian Dollar hits fresh monthly highs above 0.7020 as risk aversion ebbs

AUD/USD rallies for the second consecutive day and hits one-month highs above 0.7020.
Investors' optimism about a ceasefire in Iran is keeping the US Dollar under pressure.
Rising bets that the RBA might hike rates once more this year provide additional support to the Aussie.

Guillermo Alcala FXStreet

The Australian Dollar (AUD) is showing one of the best performances among major currencies on Tuesday, appreciating to fresh one-month highs against the US Dollar, amid hopes of a ceasefire in Iran. The AUD/USD pair extends gains for the second consecutive day to reach levels above 0.7020 for the first time since mid-June.

A mild appetite for risk is supporting the Aussie’s recovery as investors cling to hopes of a ceasefire in Iran. A report by Axios released earlier on Tuesday revealed that the US administration is reviewing a peace proposal submitted by mediators and that the US president has urged Israel to avoid actions that might endanger a negotiating scenario.

The report, however, also says that the US military is preparing for an all-out war, in case the diplomatic way fails. This is keeping US Dollar dips limited so far.

The Australian and US economic calendars are thin this week, but rising bets that the Reserve Bank of Australia (RBA) might hike interest rates before the end of the year are providing moderate support for the Aussie. The RBA left rates on hold in June and is expected to stand pat in August as well, but the recent rally in oil prices has boosted hopes of another rate hike before the year-end.

In the US, on the other hand, the soft inflation data released last week dampened hopes of a rate hike in July and left investors split about one in September. This has blunted the US Dollar’s bullish edge this week.

Risk sentiment FAQs

What do the terms"risk-on" and "risk-off" mean when referring to sentiment in financial markets?

In the world of financial jargon the two widely used terms “risk-on” and “risk off'' refer to the level of risk that investors are willing to stomach during the period referenced. In a “risk-on” market, investors are optimistic about the future and more willing to buy risky assets. In a “risk-off” market investors start to ‘play it safe’ because they are worried about the future, and therefore buy less risky assets that are more certain of bringing a return, even if it is relatively modest.

What are the key assets to track to understand risk sentiment dynamics?

Typically, during periods of “risk-on”, stock markets will rise, most commodities – except Gold – will also gain in value, since they benefit from a positive growth outlook. The currencies of nations that are heavy commodity exporters strengthen because of increased demand, and Cryptocurrencies rise. In a “risk-off” market, Bonds go up – especially major government Bonds – Gold shines, and safe-haven currencies such as the Japanese Yen, Swiss Franc and US Dollar all benefit.

Which currencies strengthen when sentiment is "risk-on"?

The Australian Dollar (AUD), the Canadian Dollar (CAD), the New Zealand Dollar (NZD) and minor FX like the Ruble (RUB) and the South African Rand (ZAR), all tend to rise in markets that are “risk-on”. This is because the economies of these currencies are heavily reliant on commodity exports for growth, and commodities tend to rise in price during risk-on periods. This is because investors foresee greater demand for raw materials in the future due to heightened economic activity.

Which currencies strengthen when sentiment is "risk-off"?

The major currencies that tend to rise during periods of “risk-off” are the US Dollar (USD), the Japanese Yen (JPY) and the Swiss Franc (CHF). The US Dollar, because it is the world’s reserve currency, and because in times of crisis investors buy US government debt, which is seen as safe because the largest economy in the world is unlikely to default. The Yen, from increased demand for Japanese government bonds, because a high proportion are held by domestic investors who are unlikely to dump them – even in a crisis. The Swiss Franc, because strict Swiss banking laws offer investors enhanced capital protection.

Author

Guillermo Alcala

FXStreet

Graduated in Communication Sciences at the Universidad del Pais Vasco and Universiteit van Amsterdam, Guillermo has been working as financial news editor and copywriter in diverse Forex-related firms, like FXStreet and Kantox.

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