By Roger J Kerr
The NZ dollar has remained elevated and relatively stable against the USD over recent weeks, trading above and below 0.7300.
The US dollar itself has not been able (as yet) to regain its November and December strength against the Euro, the USD oscillating around the $1.0750 mark.
Global FX markets have generally been selling the US dollar over recent weeks as they banked profits on the USD rally from $1.1200 to $1.0400 after the Trump election victory in November.
There appears to be some disappointment in the markets that there has been no further detail on the positive parts of “Trumponomics”, being tax cuts and infrastructure spending/investment.
The previous rallies in both US equities and the US dollar has stalled over the last month due to a lack of policy detail in these areas from the new Trump administration.
Economic policy changes in the tax/infrastructure arena clearly cannot be by decree of Presidential executive orders.
What is encouraging for the US dollar bulls is that the profit-taking has not driven the EUR/USD exchange rate above $1.0800 and that US economic data continues to print on the positive side.
January job increases were an impressive 227,000 and the ISM manufacturing survey was again up strongly, increasing from 54.5 in December to 56.00 in January. Employment and pricing intentions in the ISM survey were also strong.
The FX markets did not aggressively buy the US dollar on the strong employment data as the wages increase was less than expected.
However, the underlying momentum in the US economy (nothing to do with political changes over recent months) still points to three 0.25% interest rate increases from the Fed this year.
A continuation of the strong US economic data trend over the next few weeks should see the probability of three Fed hikes come through in the form of a stronger US dollar to $1.0500 in the forex markets.
Therefore, the Kiwi dollar’s time at 0.7300 appears to be limited and a return back down to 0.7100 on the back of a stronger USD is the preferred view.
European political risk has had to take a back seat in the FX markets over recent weeks as “The Donald” reeled out a string of executive orders to prove that he is a man of decisive action and will deliver on his election campaign promises.
The trouble is that the practical implementation of policy changes such as border control is proving to be a tad more difficult to make an impact than he envisaged.
However, the Euro can be expected to be under increasing pressure as far-right/anti-immigrant political candidates in Europe gain in the polls.
Political risk can only increase in Europe with upcoming elections in The Netherlands (mid-March), France (April) and Germany (September) and a weaker Euro should be the result. Investor sentiment in the Euro-zone deteriorated in February due to concerns that the isolationist Trump policies will weigh on the global economy.
The Europeans will also be concerned at the Trump assertion that their currency, the Euro, is undervalued against the USD and a plan to slap 35% border tax on German cars being imported into the US.
Whilst the Trump statements about the value of the US dollar may have a minor short-term negative impact on the USD’s value, in the medium term it is what the Federal Reserve say and do that will really determine the US dollar’s value. The Fed were not as outright positive on the US economy last week as the markets had hoped. However, like the markets they as yet have no detail on the Trump tax and infrastructure policies.
New Zealand developments
On the local New Zealand front, two key announcements over the next week may set the scene and tone for NZD/USD currency direction over coming months.
The GDT dairy auction in the early hours of Wednesday morning our time may well see a more substantial pull-back in whole milk powder (WMP) prices than what many expect.
Chinese buying demand appears to be waning and extra WMP supply onto the global market is coming in from Europe and the US.
The last GDT auction averaged US$3,285/MT and it would not be a surprise to see the price dip below US$3,000 over coming weeks.
The foreign exchange markets are currently not pricing in decreasing NZ commodity prices in the early part of 2017, therefore expect some independent NZ dollar selling if the lower export commodity prices eventuate.
The second critical event for the Kiwi dollar this week is the RBNZ’s Monetary Policy Statement on Thursday 9th February.
Highlighting over-valued dollar
Whilst the RBNZ will probably not say anything too different to what they stated late last year, the serious divergence of the TWI currency index (higher to 80.0) from the direction of the major NZ economic measure, the Terms of Trade Index (lower from weaker export prices and higher import oil prices) should force the RBNZ to highlight the over-valuation of the exchange rate.
A TWI near to 80.0, whereas the RBNZ assumed a 76.0 level at this time, should result in a revision down in their 2017 inflation forecast (imported goods cheaper).
RBNZ Governor, Graeme Wheeler however does not have a great track record in talking the NZ dollar lower (his statements typically underwhelm and send the NZ dollar higher!).
Two weeks ago the local interest rate markets were pricing in a 0.25% OCR increase before the end of the year, that probability and pricing has reduced as the TWI has moved higher.
The NZD/AUD cross-rate has remained elevated at the 0.9500/0.9600 level over recent weeks due to a market expectation that New Zealand would be increasing their interest rates ahead of Australia in 2017.
Governor Wheeler has the opportunity this week to call the financial markets pre-mature in pricing such an expectation. If he does that the Kiwi dollar should attract some decent selling interest.
Roger J Kerr contracts to PwC in the treasury advisory area. He specialises in fixed interest securities and is a commentator on economics and markets. More commentary and useful information on fixed interest investing can be found at rogeradvice.com