Milk powder more important than monetary policy for the NZ$ direction

By Roger J Kerr

New Zealand has been heavily favoured over recent times as an attractive currency destination for international funds seeking a safe-haven away from the USD and Euro.

The Kiwi has been favoured over and above the Aussie dollar as the outlook on our interest rates is up, whereas theirs is down.

Our economic data has been stronger than Australia’s of late as well.

Can this favoured status for our currency last and propel the NZD/USD rate to 0.9000 and higher as several bank economists are now picking?

Two upcoming statements from our monetary industry leader and dairy industry leader are likely to influence the NZD currency market sentiment in the short-term:

1. This Thursday’s OCR Review by the RBNZ provides the opportunity for Governor Bollard to 'jawbone' the NZ dollar down as he will realise the potential damage a 0.8500 to 0.9000 NZD value will have on the export sector that is providing all the growth to the economy.

The RBNZ statement cannot allow any interpretation by the markets that it is even marginally hawkish, as that would send the NZD higher still.

The domestic economic data demands an ending of the monetary stimulus, however the RBNZ will know that they cannot even hint at a signal that they might be hiking the OCR earlier than what they have already indicated.

Who would have his job?

2. There is no indication yet that Fonterra is even contemplating a statement on their 2011/2012 milksolids payout forecast to dairy farmers; however what Chairman, Sir Henry van den Hayden says in this respect may have more impact on the NZD value than what Governor Bollard verbalises.

It is not publically disclosed (yet) as to what level Fonterra have sold wholemilk powder (WMP) forward at the previous high prices and to what percentage of the next 12 month’s export sales they have hedged the currency risk, however recent material market price movements in both variables suggest that the current $7.15 to $7.25/ kilo milksolids payout forecast could be under threat of a downward revision.

That 2011/2012 forecast did build-in lower WMP prices and a higher NZD/USD exchange rate, however the latest lower WMP/higher currency movements are arguably well in excess of Fonterra’s expectations.

A lot of the speculative Asian money that has come into the NZD over recent months has done so on the back of the diary price boom. Confirmation from Fonterra that the milksolids payout forecast has to be lowered would certainly be a negative for the Kiwi dollar. The Europeans and Americans have released additional volumes onto the globally-traded WMP market; this is why the WMP price is now falling rather rapidly.

The Kiwi dollar is now in massive 'over-shoot' territory, however there has to be specific New Zealand negatives to reverse the upward momentum.

A general recovery by the USD in global FX markets after the US Government sort their debt ceiling deal may bring the NZD/USD rate back down, however all the other cross-rates would remain stable at the their elevated levels. The ANZ Commodity Price Index due for release next Monday, August 1 will be another reminder to international investors in the NZD that our commodity prices have reversed dramatically.

The speed at which the NZD/USD rate has gone up from 0.8100 to 0.8650 over recent weeks suggests a vulnerability to an over-brought market and thus potential for a pull-back just as sharp.

What the catalyst will be for specific NZD selling is hard to predict, however my guess is that it will be more to do with milk powder than monetary policy.

--------------------

 * Roger J Kerr runs Asia Pacific Risk Management. 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