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The Aussie (FXA, UUP, UDN) has been in a sell off since October when it was trading above the 97 handle. The bears responded with numerous calls to sell. Probably the most clarion call was that of the Reserve Bank of Australia Governor Glen Stevens who decided the Aussie dollar was priced too high. The ideal level, according to the government's analysis, should be below .85.

Then, it would be, sell the Aussie, as a "risk off" economic number has been reported somewhere in the developed world. An especially severe "risk off" situation would occur when bad news would come from China. Since China was the biggest destination of Australian exports this event would hit the Aussie quite hard. After all the massive Chinese lending and spending boom has tapered off but it has not stopped.

Historically China's biggest import from Australia has been iron ore, which has slowed but it has not stopped. In October the price of iron ore delivered to China was about US$ 135/ MT. Now the Feb. delivery to China is worth between $US105/110 mt. Since the demand remains at about 65M m/t tons per month the trade has not stopped but the value has decreased. Yes, there may be a contraction and the Australian trade may slow but it is not likely to stop.

Further if we go back a year, we find Central Bankers in late 2012 when the Australian dollar was at higher levels, these CB's were busy putting the Australian dollar into their reserve currency portfolio. Bloomberg on 2-27-13 reported that as many as 34 central banks held the Australian dollar as part of their reserves. This, despite the fact the A$, then trading above 1.02, was reported to be 10% overvalued, there was Central Banker demand. At a discount, currently under .90, will the currency buyers with the deep pockets view the Aussie now has more value?

Trade on the first day of Feb, with a sharp global sell off in equities, did not result in the "risk off" chant the bears had hoped to hear. Instead the musings of the RBA Governor, that the current bank rate was about right and further adjustments were unlikely, revealed there were too many shorts.

When looking at the previous day's COT Report we observed: "The Australian dollar remained a favored short for specs. The total spec short was 86.9K (IMM contracts) little changed from last week's 85.5K. The market is due for a short squeeze, but when?"

The sharp rally on Monday hurt the overextended bears, but we all know one day is usually not a trend changer. Further, there remains the possibility for volatility inspired by reports from the ECB or from the US NFP Report. Should any of these reports send the Australian dollar back to the 88 handle, we are inclined to be a buyer there. We doubt the short squeeze has commenced in earnest. A bounce to the 93 handle is possible. Manage your money carefully.

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Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

Source: Time For An Aussie Rally?