By Roger J Kerr
To say that the New Zealand dollar has been buffeted around by the storm that erupted in global financial / investment markets ahead and after the US debt fiasco would be a serious understatement.
The volatility in the NZD/USD FX market has been extreme in recent weeks with two and three cent daily trading ranges becoming the norm as interbank NZD market liquidity reduced as some global investment bank players pulled back from participating in the market.
In very uncertain and wildly fluctuating market sentiment, movements up and down were exaggerated due to the lower liquidity and trading volumes.
After reaching a low of 0.7985 on 10 August, the Kiwi dollar has swung violently between 0.8430 and 0.8100, largely driven by the wild swings up and down in global sharemarkets. The sentiment of international investors, hedge funds and currency traders has been to sell the Kiwi aggressively when the Dow Jones Index has plummeted on the US credit rating changes and economic releases. Equally, the same players have bought the NZD back just as aggressively when the US sharemarket has rallied upwards.
The question that everyone is asking is - if and when will the crazy volatility come to an end, or is this the new normal for a very uncertain world in terms of future economic conditions and thus individual listed company earnings performance from that environment?
Standing back from the day-to-day events and volatility is always difficult in these circumstances when there is just so much hesitancy and uncertainty about the future.
However, as far as the NZD/USD exchange rate value and direction is concerned, the changes in recent months could be summarised as follows ...
- The rapid retraction from the post-float record highs of 0.8830 to the low 0.8000’s over the past two weeks has to be seen as a massive unwinding of money parked temporarily into NZ dollars by international investors ahead of the US debt ceiling “D-day” on 2 August. The Kiwi and Aussie dollars were seen as a safe haven away from both the USD and EUR over that period. There was no great surprise that the NZD depreciated quickly once the US politicians reached some sort of compromise. At that time the risk of credit rating downgrade appeared to have reduced and the money flooded back out of the Kiwi.
- When Standard & Poor’s made their US Government sovereign credit rating downgrade to AA+ a few days later, equity markets plummeted as contemporaneously weaker economic figures suggested much lower US and global GDP growth. The NZD plummeted further to the sub-0.8000 level as risk was quickly taken off the table by investors as sharemarkets and commodity markets plunged.
- The bounce back up from below 0.8000 to the current 0.8300 level has come about as the US Federal Reserve pledged to keep US interest rates at the super low levels until 2013. Sharemarkets for the meantime have recovered as the monetary stimulus in the US continues. The Federal Reserve has to date refrained from further quantitative easing by printing more USD’s to help the US economy recover.
The outlook
The outlook for the NZD/USD direction over coming months depends heavily on external, international economic and financial market factors.
Domestic NZ economic data, monetary policy and Government fiscal policy developments are unlikely to have as much influence as overseas events. Although a more downbeat Monetary Policy Statement from the RBNZ on 15 September will be NZ dollar negative. As always, the movements in the AUD/USD exchange rate, EUR/USD exchange rate, commodity prices and the Dow Jones Index will determine where the NZD ends up.
Economic policy makers in both Europe and the US have their work cut out to satisfy and placate jittery investment markets.
There cannot be much confidence - judged from their track-record to date - that the European political and economic leaders can make the tough decisions to solve the sovereign debt crisis of confidence and lift European economic performance.
A weaker Euro currency value has to be the conclusion as weaker economic figures emerge from northern Europe on top of the southern European basket-cases (now including Spain and Italy). The NZD/USD rate is still expected to follow the EUR/USD rate down over coming months.
A lower global growth expectation should continue to push commodity prices lower over the rest of 2011. International prices for milkpowder and sheepmeat/beef have continued to fall over recent weeks, further removing one of the previously very positive fundamental underpinnings for the NZ economy and currency.
All the one-off variables that forced the NZ dollar higher on its own account in May/June from 0.7800 to the 0.8200 area - that is, earthquake reinsurance inflows, foreign investors buying of NZ Govt bonds, stronger GDP growth and the more upbeat outlook from the RBNZ in June - have now all run their course and do not stand out as likely to repeat.
Global investors have abruptly reversed out of the growth-and-commodity risk currencies of the AUD and NZD and given the now much less certain global economic/market environment ahead, they are unlikely to return in a hurry. Some speculate that the currency 'carry-trade' may come back in vogue with US interest rates remaining lower for longer and thus push the NZD upwards. However, increased risk aversion by investors should outweigh that normally positive factor for the Kiwi dollar.
If the NZD/USD exchange rate remains above 0.8000 for a prolonged period interest rates will remain low in NZ for longer and the economy will grow at 1% to 2% in 2012, not 4% to 5% as per current forecasts.
If the NZD/USD rate returns to the mid-0.7000’s, increasing interest rates would then underpin it as the economy will do better in 2012.
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* 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
2 Comments
It seems to me that the Kiwi dollar is only sold down during a market panic or a 'flight to risk'. Fundamentally the stage is set better for growth in NZ than in the USA. I can see the Kiwi dollar appreciating more, perhaps even to as much as 90c or parity with the USD. If it looks like the USA is going into a recession you can bet your bottom dollar that the Fed will start another round of Quantative Easing to pump the markets up again and further debase the US dollar.
It's all about rebalancing... the US needs a weak USD to help fix the imbalances in its economy.
Thanks for an article with plenty to ponder.
!. I agree the carry trade is becoming less important for the Kiwi. If you want to carry, why not the Aussie or Rand with much higher rates?
2. The flight from risk, into the greenback etc, must be getting less popular surely. Yes, there's the old reef fish thing, and yes, old habits die hard, but it must also be becoming increasingly obvious that the US trend is downwards for a good while yet.
3. Do you really think that if the Kiwi drops to near US70c that will allow higher interest rates here? If it does drop it will most likely be because there are big global problems and OCR rises would be madness.
4. Are you sure the reinsurance monies are all here and that NZ Govt has stopped borrowing overseas? I doubt it.
5. The euro remains surprisingly resiliant. As do some of the north european economies. In fact the euro for them means that they have an undervalued currency and can indulge in trade wars, like China etc. So the euro may stay quite strong, to the anguish of the PIIGS. It'll be fun watching this eurobond fight though.
Overall I think Kiwipete may well be right.
Cheers
JK
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