Cheap money over the tail risk of World War III is winning the day for financial markets. Equities at fresh record highs. NZD outperforms after a poor run month-to-date

Market sentiment remains positive, seeing fresh record highs in US equities, while the MSCI All-Country index also stretched to a record high. The USD remains under pressure and the NZD has outperformed, regaining the 0.66 handle. Global rates are slightly higher.

Northern Hemisphere summer trading conditions continue, and the hot atmospheric conditions are still being met with hot equity markets, even in the absence of much newsflow. The S&P500 has extended its streak of record highs and is currently up over 1%. Big tech is leading the way again, inflating the index, with the small cap Russell 2000 index down 0.5%, indicating that the gains aren’t broadly based.

While cheap central bank money is fuelling the gains in equity markets, the economic dataflow still provides a supporting role. Continuing the run of stronger than expected US data, durable goods orders for July were way above expectations, jumping 11.2%, following the 7.7% increase in June, driven by the autos sector. Excluding transport, the data weren’t nearly as strong, but still better than forecast.

On the policy front, Germany allocated another €10bn to extend its wage-support programme through to the end of 2021, adding to the significant fiscal stimulus already underway to drive an economic recovery. The Euro Stoxx 600 index closed the day 0.9% higher.

The market is unperturbed by reports of escalating US-China tensions in the South China Sea. The South China Morning Post reported China launched two missiles, including an “aircraft-carrier killer” on Wednesday morning, one day after China said a US spy plane entered a no-fly zone without permission. Meanwhile the US Dept of Commerce added 24 Chinese companies to a list of entities facing trade and visa restrictions for helping build outposts in the region. Cheap money over the tail risk of World War III is winning the day for financial markets.

Global bond rates have edged up further, with core European 10-year rates up between 1-4bps. The US 10-year Treasury yield edged up to the top of its two-month trading range, hitting 0.72%, but has since pushed down to 0.69%, barely higher for the day and down slightly from the NZ close.

In the currency market, the USD shows broadly-based losses overnight while the NZD has been the strongest performer, up almost 1% since the NZ close and breaking up through 0.66. Month-to-date and year-to-date the NZD has been the worst-performing of the major currencies we follow and there might be some profit taking from short positions as we head into month-end. 

Yesterday we published a note (available on request), looking at Sweden’s experience with negative rates and QE policy. Much of the damage to Sweden’s TWI exchange rate was done before Riksbank’s policy rate went negative and QE commenced in 2015. Similarities apply to the NZD’s current predicament.

The AUD is up 0.5% for the day, with all of that occurring overnight, taking it to 0.7230 but the NZD’s outperformance sees it push up to the top of its weekly trading range to 0.9140. Of the majors, EUR has made little progress overnight, falling to 1.1772 overnight before recovering to 1.1820.  NZD/EUR is up over 1% for the day to 0.5590, solidifying the 0.55 level as an area of strong support. On the other crosses, NZD/JPY has broken up through 70 while NZD/GBP has broken up through 0.50.

Yesterday afternoon, RBNZ Assistant Governor Hawkesby gave a webinar and noted that the Bank had a “lot of work to do” to meet the Bank’s inflation and employment targets. The immediate focus was how the Bank could use its balance sheet more. Work is currently being done on designing a Funding for Lending Scheme, that would reduce the cost of funding to trading banks to encourage increased lending. A key message was that the RBNZ’s balance sheet will remain large for a prolonged time and it’s not necessarily the case that the increase in the size of the balance sheet is fully unwound when it comes time to reduce stimulus measures.

The headlines came out after the domestic rates market closed, but we can’t see the comments as being market moving. The NZGB and swaps curve steepened yesterday, with 2-year swap up just 1bp at 0.09% and 10-year swap up 7bps to 0.58%. The steepening was less aggressive for NZGBs, with the 10-year rate up just 3bps.

The focus tonight is Fed Chair Powell’s Jackson Hole address where he will discuss the Fed’s review of its monetary policy framework. The finer details of the of the review probably won’t be revealed until next months, but the market expects the Fed to shift towards an ‘average inflation target’ framework whereby the central bank would aim to overshoot its 2% target for a period, to compensate for previous periods below target.