NZD and NZD/AUD make fresh four-month highs as market pares back OCR cut expectations. Little move in markets as investors await payrolls tonight

Markets have largely been in a pre-payrolls holding pattern overnight.  Treasury yields have nudged up, equity markets are little changed, and the USD has continued to drift lower.   Yesterday, the RBNZ softened some aspects of its original bank capital proposal, which led the market to pare back OCR rate cut expectations and boosted the NZD.  The NZD is trading at a four-month high against both the USD and AUD, with the NZD/AUD cross pushing up towards 0.96.

There’s not much to report from overnight, with little fresh news on the US-China trade front and only second-tier economic data released.  US equity markets are essentially flat (near record highs) while German and US yields have nudged up 2-3bps (the US 10 year is trading around 1.80%).  The market awaits the nonfarm payrolls release tonight.  The consensus is for payrolls growth to recover to 185k in November (after having been hit by the GM workers’ strike in October), with the unemployment rate and average hourly earnings remaining unchanged at 3.6% and 3% respectively. 

WTI crude oil is trading near its highest level in 2½ months (+0.3% to $58.60) as OPEC+ members are meeting in Vienna, reportedly to discuss a proposed 500,000 barrels per day cut to oil output.  Oil production by OPEC+ has been below its official target for some time, and the proposed output cut would, in effect, formalise the current level of production. 

Fiscal stimulus is a theme has been getting increased attention in markets over recent months (including in NZ).  In Japan, PM Abe yesterday announced a major fiscal stimulus, worth ¥13.2t ($121b, or close to 2% of GDP spread over 15 months).  The package, which includes new central government spending of ¥7.6t, is focused on infrastructure and is intended to support the economy from the recent increase in the consumption tax and any downturn after next year’s Tokyo Olympics.  The markets didn’t seem particularly impressed however, although most of the details had been leaked to the media earlier in the week, with JGB yields barely moved and little change in the JPY.  The 10 year Japanese government bond yield is just below 0%, having been almost -0.3% a few months back.  In Germany, the centre-left SPD party is due to enter coalition negotiations with Merkel’s CDU, with Reuters reporting that that the SPD’s new leaders were pushing for greater public investment and a softening of the rule that forces the government to run a balanced budget. 

The USD continues to drift lower and has now fallen for five consecutive trading sessions.  The GBP has outperformed (+0.4%) and made a fresh seven-month high above 1.3150.  The betting markets put the probability of an outright Conservative majority at around 70%.  The AUD has been the notable underperformer and is the only currency to have fallen against the USD over the past 24 hours (-0.2% to 0.6830).  Australian retail sales data released yesterday was much weaker than expected, with flat spending growth in October (0.3% exp.).  Our NAB colleagues view the trend in sales as very weak and showing little responsiveness to the RBA’s rate cuts and the government’s income tax cuts to date.  They look for two RBA rate cuts in 2020, bringing the cash rate to 0.25%, with a real prospect of QE in the second half of the year. 

The NZD is up 0.25% over the past 24 hours, matching the movements in the EUR and JPY.   Markets reacted positively to the RBNZ softening some aspects of its bank capital requirements, with the NZD jumping from 0.6520 to 0.6560, a fresh four-month high, and NZ rates rising by 2.5-4bps during yesterday’s local session.  The NZD trades at 0.6545 this morning while the NZD/AUD cross is up to 0.9580, a four-month high as well. 

The highlight of yesterday’s local session was the RBNZ’s release of its bank capital review.  At a headline level, the large ‘Big 4’ banks will need to hold a minimum 16% Tier 1 capital, up from the current regulatory minimum 8.5% (although, in practice, banks already hold Tier 1 capital well in excess of the regulatory minimum).  The new information was that the RBNZ extended the implementation period from 5 years to 7 years and said that less-costly redeemable preference shares could count towards banks’ minimum capital requirement (up to 2.5%).  The RBNZ’s amendments to its proposal will make it less costly for banks (the RBNZ estimated that average lending rates might rise by 20bps, rather than the 30bps estimate based on the original proposal).  Now the uncertainty around the proposal is behind us, it’s possible that confidence could pick-up ahead.  Australian bank share prices were 1-2% higher yesterday, slightly outperforming the broader ASX index which rose 1.15%. 

In the press conference, Governor Orr referred to monetary policy being in a “holding phase”, reinforcing our view that the RBNZ is likely to keep the OCR on hold for some time (especially with Finance Minister Robertson set to announce Labour’s “significant” fiscal stimulus package at HYEFU next week).  When asked about the monetary policy implications from the estimated 20bp impact on lending rates from the bank capital changes, Governor Orr said it would probably "come out in the wash", especially in the context of the long implementation period.  A February rate cut is now only seen as a 15% chance and the market prices around a 50% chance of a cut next year. 

Also yesterday, Fonterra announced an increase to its 2019/20 milk price forecast to a range of $7 - $7.60 from its previous forecast of $6.55 - $7.55.  This is the strongest milk price forecast since the record 2013/14 season.  Our calculations using the $7.30 mid-point of Fonterra’s forecast range change and earnings guidance suggests the dairy industry should earn nearly $500m more revenue to compared to the previous mid-point of $7.05. Compared to the previous season, the new forecast represents a revenue increase of around $2.25b.  This will help support domestic growth, notwithstanding some of the revenue will undoubtedly be used to pay down debt.

It should be a quiet local session with the markets awaiting nonfarm payrolls tonight.