By Stuart Talman, XE currency strategist
It is gloomy out there.
Market angst continues to rise against the backdrop of rising treasury yields, a relentlessly stronger dollar and crude oil consolidating above US$100/barrel. Falling in five of the past six days, the S&P500 has retreated to a 3 month low, now trading over 7% below its late July peak.
Net moves for the major currencies have been relatively tight, price action characterised by a second day of condensed range trading as this week presents a more subdued economic calendar following last week's flurry of central bank monetary policy meetings.
Ranging between the 0.5930's and 0.5970's, the New Zealand dollar remains entrenched in a broader 7 week range, incapable of mounting a material rebound from year-to-date lows given global risk sentiment leans negative.
The constant run higher in global bond yields and the Fed's higher for longer mantra is fraying the market's nerves, reducing misplaced optimism that the Fed and other major central banks can engineer a soft landing following the most aggressive monetary tightening cycle in over 40 years.
Back in late July when the S&P500 and Nasdaq had roared back to 16 and 18 month highs, respectively, the yield on the benchmark US ten year bond traded below 3.80%. Rising in 9 of 11 weeks since, the 10-yr yield reached a fresh 16 year high through 4.56% through Tuesday.
Higher bond yields have serious implications for both US businesses and households given the yield on the benchmark 10-year bond is used as a proxy for corporate loans and debt refinancing, mortgage rates and equity valuations. In addition, higher government bond yields require the US government to pay more interest on its mountains of government debt.
Yields are expected to continue to rise through this week as the US government auctions $134B of notes which comes ahead of a potential US government shutdown should Republicans and Democrats fail to agree on a stopgap funding bill that would enable the federal government to continue operating after current funding runs out at midnight on Saturday in the US.
If a bill is not passed, the US government will shut down for the fourth time this decade resulting in the furloughing of hundreds of thousands of government employees and disruptions to a wide range of government services such as the publication of economic data, public transportation, civil litigation and some preschooling programs.
Government workers deemed "essential" would remain on the job, but without pay.
Congress has shut down the government 14 times over the past 40 years, with most of the funding gaps lasting just a day or two. Whilst shutdowns of the past do not have a significant impact on the world's largest economy, they are extremely disruptive.
Ratings agency Moody's warned earlier in the week that a shutdown would have negative implications for the US government’s AAA rating as it would further highlight how political divergence between the two major US parties is causing a deterioration in fiscal dynamics.
Should Moody's and other ratings agencies move to downgrade the rating of US government debt, US treasury yields would be propelled higher increasing the likelihood of more pronounced deleveraging.
US equities and pro-cyclical currencies, including the New Zealand and Australian dollars would get crunched.
Local importers, a sub-60 US cent New Zealand dollar does not present as favourable, however don’t discount incremental hedging at current levels given risks remain firmly skewed to the downside. Short to medium term dollar dominance is likely to continue through early 4Q.
Looking to the day ahead, the sole data point of note is the monthly CPI report for the Australian economy. Over the previous three months, headline inflation across the Tasman has printed at 5.5%, 5.4% and 4.9%. August's reading is projected to climb to 5.2% - higher energy prices to blame.
Should AUS inflation undershoot expectations, NZDAUD extends further through 0.93. Our key upside technical level: 0.9320 resistance. The antipodean cross last traded above here in late May.
US durable goods orders aside, the global economic calendar is absent any market moving releases through Wednesday.
Mundane price action likely to continue, NZDUSD to trade in the low to mid 0.59's.
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Stuart Talman is Director of Sales at XE. You can contact him here.
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